Final Salary Pension

[ninetieseyebrows]

I have recently discovered I have a small pension from 1997 when I worked for a large insurance company. I was with the company for 2.5 years and contributed to their pension scheme - which is a final salary scheme. When I left the company my salary was around £15000.
The paperwork tells me that my pot would give me a pension of £600 pa when I come to take the pension out when I retire.
I did get a transfer value in 2017 of around £40,000, which I didn't act on and left the pot as it was.
Can someone tell me (as if I was 5 years old, please) how final salary schemes work? The transfer value seems far more useful to me than £600 pa after retirement. Or am I missing something here?
Will speak to an IFA but just before I do just wanted to check I'm not missing something glaringly obvious.
TIA

I am not a qualified adviser and what's below is based on my understanding having a Final Salary Pension (Civil Service) my self.

A final salary scheme will pay you a pension based on your final salary with the employer multiplied by a fraction, typically between an 80th and a 60th for each year of service. That is referred to as the accrual rate - if you do the full 40 years your pension would be either half or two thirds of the final salary.

So, say £20,000pa/80*2.5, just plucking a salary from the air, and assuming a scheme accruing in 80ths is in the same ballpark as your £600.

How old is quotes of £600pa?

Two other things. Depending on the scheme the £600 may be subject to some sort of annual uprate up to the payment date and, once in payment the amount you get might also increase. A final salary scheme might also give you a lump sum on retirement (ie at scheme pension age which is probably 60) and a widow/widowers pension if you have a spouse and die first.

The transfer value of £40,000 seems a lot. A hell of a lot.

AIUI most advice is that a final salary scheme is as it were gold plated and under most circs you would never be professionally advised to swap it for cash.

An IFA, or perhaps a chat with Pensionwise if you're age eligible would be a start.

You are likely to be talking about a Defined Benefit pension.

This is a pension scheme where the annual pension paid to you - the defined benefit - is determined by the scheme rules, not by how much you have paid in to the pension.

Your statement shows the annual pension payment which is due to you at the Normal Pension Age (NPA) of the scheme. If the scheme allows and you take pension earlier, then you get less annual pension.

The transfer value represents what the pension scheme would pay if the pension was moved to another pension provider. Moving from a defined benefit scheme to a defined contribution scheme means you end up with a pot of money, which you have to then control how that is used.

The Financial Conduct Authority has decided that any pension transfers, between defined benefit and defined contribution schemes, of £30,000 or above, have to be done with professional advice. This decision has been made following past events, were people have lost money from doing moves of this type. The advice for this type of pension transfer, can run in to many £thousands as there is a lot of liability on the adviser, thus high adviser insurance premiums. The outcome of the advice may be not to transfer the pension.

FCA has some videos for consumers about pension transfers: https://www.fca.org.uk/consumers/pension-transfer-advice-what-expect

Whilst £600 per year may seem low, you may get that at age 60.
You may live until you are age 92.
That £600 per year may be index linked, so grows by perhaps CPI each year.
Long term average of CPI I do not know but lets say it is 4%.
£600 at age 60, would be around £888 at age 70, £1314 at age 80, £1946 at age 90.
The pension provider guarantees to pay you each year, regardless of how well investment markets are doing.
If you transferred the pension to a defined contribution scheme, then you have a pot of money which is invested, and you can take out what you like, when you like, within some limitations. If you took £600 the first year, then increased that by 4% each year, then it might last until your 90's or it might not as it depends on how well the investment does. If you took a chunk of money initially, then you do not have much invested, so that does not grow much, and you are more likely to run out of that money before for your death.

Transferring from a defined benefit scheme to a defined contribution scheme needs a lot of things looking at, thus why you have to get financial advice if the value if £30k or higher. Not all financial advisers will advise on defined benefit pension transfers.

If you transferred and took the money out, you could then invest it yourself. £600 seems very low income from £40,000, currently you could get up to 5% in protected bank accounts so up to £2,000 a year, not guaranteed though, and there are tax implications.

Personally I would cash in and invest myself to also give easy access to the capital if needed. Tying up that much capital for so little income hardly seems worth it to me. This is not financial advice!

How old is the paperwork that says £600? I'd start by getting an updated figure for that- £40k transfer value would suggest a much higher sum.

Thanks for the responses! I've just spoken to the pension provider and have requested an upto date transfer quote, which will also give me an updated figure of pension payment pa. @DontEatCrisps it was back in 2017 that the paperwork said £600 pa or £40K transfer. However, the pension provider has just told me that figures have dropped dramatically (39%) this year and last and mine could be much lower now. Damn! Should have transferred it in 2017! They take 5 days to send me a figure so I'll see what it says. I agree that lump sum (reinvested into my private pension) seems far more useful than £600 a year - that's not even a holiday! But maybe I should wait for things to stabilise and it pick back up before transferring.

How old are you now? If not yet 54 (so within 12 months of being able to take early retirement benefits) then you will be very hard pressed to find a DB licensed adviser who will give you advice.

However, the pension provider has just told me that figures have dropped dramatically (39%) this year and last and mine could be much lower now. Damn! Should have transferred it in 2017!

If its a defined pension though I didnt think it would/could fluctuate?.

The cash equivalent transfer value (CETV) can fluctuate. The annual pension may have increased.

The transfer value will have fallen hugely with higher interest rates.

I'd get careful advice OP - it's not likely your private fund would replicate the income, and you would be taking all the risk. Massive asterisk on that obviously.

DB benefits are typically best left where they are. Exceptions include:

• Scheme is paying people a bit extra to leave
• You're not married so the spouse's pension is irrelevant
• You have a much lower life expectancy than typical (a bit of a gamble obviously, you'd want a diagnosed condition)

The annual figure should have increased in the past six years.

It think the pot sounds realistic for 2017.

I have a frozen final salary pension that will be worth c. £20k pa when I retire and 3 years ago the transfer value was almost £500l!

They have dropped a lot recently though, now expected return on investments has increased, so you may find it's not worth as much as it was.

You're basically betting on how long you'll live, if you'll live long enough to take more in annual pension than the transfer value. Remember the annual pension will increase with inflation.

@Sunseed I'm 50 next year. So bit of time to work with yet.

Thanks for all the input everyone- really appreciated. I can see it's not a clear cut thing here. I'll tread carefully and get some advice.

The scheme is a staff pension with the company Commercial Union (remember them? Now Aviva). I was only there 2.5 years, but looks like it may have been quite a decent pension scheme.

I got my updated transfer quote its now at £22k - so it's halved, which isn't great but expected.

However, my pension payment per annum is now estimated at £1200... so that's doubled! So not all bad, that's a holiday at least. I'll have a re-assess in a couple of years but for now, I'll leave it where it is. Thanks again everyone for all the info, it has really helped.

Sounds like a wise decision, and that will rise each year .... I think!!