Help! I work for a firm that currently has a good ‘Final Salary Pension Scheme’. This pays out the normal one sixtieth of salary for each year worked. Employees pay 7% of Pensionable salary in contributions. However, this will all change next March.

From next March onwards, anyone who wishes to remain in the final salary scheme will have to pay 14% contributions (basically double what we pay now). The company has also provided an alternative which I and my work colleagues are pondering.

The alternative is a company defined purchase scheme in which the company pays 15% of Pensionable earnings P.A. and the employee pays 5% P.A. At the end of the employees working life, a pot of money will have been built up. This is used to purchase an annuity. The company will also guarantee to increase investments by RPI plus 1.5% P.A.(with a maximum of 5%). They also guarantee to keep the fund in ‘sufficient funds’ to meet the scheme benefits.

The money purchase scheme will also involve the employee being contracted back into SERPS.

The issues that we have are;

Risk of continuing to invest in the final salary scheme. The government are going to introduce tough new measures to ensure that Final salary schemes are continually underpinned. They are also going to introduce a compensation scheme for final salary schemes that wind up. Will this make final salary schemes a lot more secure?

Risk of the defined purchase scheme. I am a bit concerned about having to purchase an annuity at the end of the scheme. I believe that annuity rates can vary. If they are low at the time of retirement, then we could lose out considerably. This is especially so since most of us will need the income from the annuity as soon as we retire. Also, will such a scheme be as secure as a fs scheme? Would it get the same kind of government protection as a fs scheme?

Another point about annuities is that their value may decrease over time. They have lost half their value over the last ten years. Is something similar likely to happen again?

You're in a similar situation to many of us. I personally prefere having the option of choosing my fund (I work in the finance industry). I have about 20-30 funds to choose from, some internal and some external.

This probably stems from my experience with Standard Life, think of how much hassle that could have been saved if you were free to move your money into bonds and then back into equities.

If you're reasonably clued up, I think this is a good option. I personally would go with the 15% and 5% contribution but that's me. Annuities are worrying, but again, another thing to watch as you approach retirement.

p.s. you could always get a government job - no risk, let the tax payer pick it up!

I haven't done any number crunching but if you're youngish and the funds of the DC scheme are any good - this is THE deciding factor- then probably go for that.

The funds have to be 1st rate. Seek and pay for advice. Don't take this decsion on your own.

This makes my blood boil when I think of all those companies taking 'payment holidays'(including mine at the time) due to surplus funds in the 80-90's. Now of course its all gone tits up and the employee needs to up the ante. Sorry for the rant but even then when I was in my early 20's I could see it was wrong.

Have to disagree with you. The demise of FS schemes has nothing to do with payment holidays and everything to do with FRS17 which put ridiculously high capital adequacy requirements on pension trustees just as bonds started to fall and equities rose.

Companies are made up of shareholders and employees past and present. Certainly non-contributory final salary pension schemes were effectively the shareholders subsidising those employees. Why should they any more than I should feel happy about subsidising the 25% of the UK population who are employed by the state and whose index-linked pensions you and I pay for monthly in our taxes?

FRS17 didn't have any impact on regulations for trustees - blaming FRS17 gives companies a soft excuse which has been used by too many companies and believed by too many commentators. What improved reporting did highlight was the exposure many companies did have to their pension schemes.

Unfortunately not. It made them aware of the "potential" exposure these companies had to their scheme if certain actuarial assumptions were used. Not the same thing.

Either way it spelt the death of FS schemes for all but the most patriarchal of employer whether by obliging them to allocate a much larger proportion of the company's "wealth" to the scheme or by making it prohibitively expensive for the balance sheet to run this type of scheme in the future.

Company pensions were/are a perk like a company car or a subsidised mortgage - no-one is entitled to them.

The Fox

Hmm, I've been hearing that argument for many years and I pity the poor employees who have been told that just as they were about to retire and suddenly find themselves with little to live on in their twilight years.

I don't see employers using that argument with DC schemes so why should it be used for DB?

The pensions regulator is taking a much more hard stance on this and is saying that underfunding a scheme is effectively a loan to the company. Hard to swallow for employers but I know which side of thefence I'll sit on being a member of several DB schemes

Not sure I follow your point here - a financial reporting rule doesn't oblige any additional expenditure on a scheme. Changes in funding calculations and regulations may require additional payments by the company, but a disclosure in a note to the accounts doesn't force any such action.

The compensation scheme you refer to is the PPF (pension protection fund). However, the level of security will depend will depend on your status (active, deferred or pensioner member) and your salary. The maximum level of benefit is £25,000pa - this should cover the majority of members. If you are not a pensioner member though you will only get 90% of what you would have got if things hadn't gone wrong.

Low annuity rates by themselves do not mean low pension. If you have a large fund then this would compensate. In today's finanical climate annuity rates are low compared to historical rates but IMO I do not see them getting any better in the future.

You do not necessarily get more by choosing one scheme over the other, it comes down to risk vs certainty. With the DB scheme you know what you will get at retirement but you will pay 14% for the privelege. With DC you get the "guaranteed" 15% employer contribution going into your own pot and if the investment does well you could end up with more than the DB scheme. Conversely, if the fund performance/annuity rates are poor then you will end up with less.

Annuity rates will change with interest and mortality rates. They look poor value compared to history, however, their purchasing power has remained strong due to low inflation. When annuity rates were higher then the initial annuity looked good but a few years of high inflation would have made people less well off (ok, I know you can buy increasing pensions but I seem to recall reading that most people buy level pensions)

I think there are several questions you need to ask yourself before deciding what to do e.g. age, risk profile, job prospects, job security etc.
I would concur with Financial Planner and suggest that you get some advice, it may save you money in the long run!

AL