Often referred to as ‘final salary’ pensions, defined benefit schemes are workplace pensions which provide an income for life, based on final salary or career average earnings, and length of scheme membership. Benefits at retirement are defined, and normally consist of a one-off lump sum and an inflation proofed income for life. The sponsoring employer bears the investment risk and must pay contributions into the scheme to ensure it is adequately funded. Most private companies have limited their future pension liabilities by closing their defined benefit scheme to new members, and often closing the scheme to future benefit accrual also.
Also known as a ‘money purchase’ pension. Defined contribution schemes have defined contributions rather than defined benefits at retirement. Defined contribution schemes can be workplace or private pensions and are funded by contributions which provide a pot of money, used to provide an income in retirement. The level of income payable from a defined contribution scheme depends on several factors, including the amount paid in, the investment performance, the charges, and the choices made at retirement. The pension fund is invested in line with the member’s attitude to risk. The level of pension in retirement is not guaranteed and is dependent on the size of the fund. Since the introduction of Pension Freedoms in 2015, everyone can now access their pension in full once they have reached minimum pension age. Tax relief on contributions is available (up to prescribed limits).
Personal pensions are a type of ‘money purchase’ or ‘defined contribution’ pension. Personal pensions were introduced in 1988 with the aim of giving individuals who are not in a company pension scheme their own portable pension. There are different types of personal pensions, such as Stakeholder Pensions and Self-Invested Personal Pensions (SIPPs).
A SIPP allows greater investment freedom than most other personal pensions, so an individual can invest their contributions according to their attitude to risk, whilst having greater control over their pension planning and investment selection. In recent years, SIPPs have grown in popularity as they allow members to take full advantage of the 2015 Pension Freedoms legislation and as demand has risen, the SIPP providers have been able to reduce costs and pass these savings onto members. SIPPs are portable, allowing individuals to consolidate existing funds when moving employment and offer more investment options than a traditional pension.
Provide the opportunity for members of workplace schemes to invest extra contributions for retirement. An AVC scheme can be established on a defined benefit, or defined contribution basis. The retirement age will normally be the same as the main scheme, and the additional benefits purchased will be in the form of extra years’ service for defined benefit schemes, and additional funds for investment for those with defined contribution schemes.
Introduced in 1987 and similar to AVCs, FSAVCs are run by pension providers offering additional retirement benefits on a defined contribution basis. FSAVCs are not connected to an employer. Since the pension reforms in 2006, the need for FSAVCs has been significantly reduced, as it became possible to simultaneously be a member of a personal pension and a workplace pension. Tax relief on contributions is allowed up to prescribed limits. The normal retirement option for this type of scheme is an annuity.
The State Pension is a regular payment from the Government that most people can claim once they reach State Pension Age. State Pension age is the earliest age an individual can start receiving their State Pension. It may be different to the access age of a workplace pension or personal pension. At least 10 years of National Insurance contributions is needed to get any form of State Pension. 35 years of contributions are required to get the full State Pension. It may be possible to backdate missed contributions or make payments from abroad. The full State Pension is £175.20 per week, or £9,110.40 per year (2020/21 tax year).
The State Pension age is under review and may change in the future. The State Pension ages have been undergoing radical changes since April 2010. The State Pension Age is 66 in 2020 and will increase to 67 and 68 in the coming years. Check your State Pension age here https://www.gov.uk/state-pension-age
The SERPS is a UK government scheme that enabled employees to build up additional State Pension, based on their earnings. The scheme ran from 1978 to 2002. It was possible to opt-out of SERPS to enhance a workplace pension or private pension.
The State Second Pension replaced SERPS in 2002 and was designed to provide more State Pension provision to lower and middle paid earners, carers, and the long-term disabled with broken work records. As with SERPS, it was possible to opt-out and receive additional contributions to a workplace pension or private pension.