Basic info about pensions being poorly understood!

[Chewbecca]

I'm distressed at the lack of understanding about different types of pensions shown by many posters on the thread about potential marriage to enable a good friend to inherit a spousal pension!

I think there is some really basic knowledge that most people should have but clearly don't, e.g.

State pension (SP)

• entitlement to a state pension comes from your NI contributions (or credits).
• You can find your own personalised record and forecasted SP on gov.uk.
• Current taxpayers pay current pensioners. The payment rules have changed over the years so pensioners get different amounts and start receiving it at different ages and also need different number of years contributions, so never assume what someone else has is what you will have, always check!
• SP is not inherited (some old types were). If it were to be, of course the NI rate would need to be much higher!
• State pension is enough to stop you starving but it provides a very basic standard of living. for example, I need 38 years contributions, it is payable at 67 & is £221pw / £11.5k pa at today's rate.

Personal pensions are therefore needed to top up your SP to your desired level of retirement income, and potentially to enable stopping or reducing work before you reach SP age.

Two main types:
Defined benefit (DB). This is the type you tend to find in the public sector and used to be commonplace in big employers in the private sector but most private schemes closed to new members in the 90s/00s.

• DB is a promise to pay an 'income' to its members from a set age for the remainder of their life, however long or short that may be. The amount paid is usually a multiple of the number of years worked and the salary of the scheme member (typically either their final salary or their average salary).
• pension payments are often index linked (annual rises)
• usually a % of the pension can be inherited by a dependent, usually spouse, sometimes children if dependent.
• contributions into the overall 'pot' are not ringfenced for each individual member. The total fund (if there is one!) needs to be sufficient to pay the pensions of all members (past and present), some of whom will draw for a very short time, others for a very long time. Actuaries work out how much the total pot needs to be to pay all those obligations, so they use data on life expectancy and pay rates etc.
• each DB scheme has its own set of rules on when they can be drawn, how much they will increase, what happens on death of members (including spousal provision) etc.
• many schemes allow a tax free lump sum when the pension starts to be paid, again the amount is determined by the scheme rules
• the risk of living a long or short life is taken by the pension fund, not individuals. The pension fund is like a collective, you share in it together with all your present and former colleagues.

Defined Contribution (DC)

• very common type of pension for private sector workers today
• pots of money held by individuals, invested in funds / stock market over the long term
• saved into by individuals and employers are obligated to contribute to individuals' pots (subject to various rules)
• can start to withdraw when over 55 (will be 57 soon)
• 25% of the pot can be taken tax free (could be in one or more lump, or 25% of each draw)
• you can draw the pension monthly, yearly, ad hoc, however you choose. Individuals need to work out how to time their withdrawals. The risk of living a long / short life is on the individual saver. The remainder is usually left in the pot so continues to (hopefully) grow.
• since this pension pot is the savings of an individual, it is inheritable. It used to be outside of your estate for IHT purposes, but, since the recent budget, it will become part of your estate in future.

Please correct me if any of the above is wrong and add your own key points!!

Thank you. I will check out MSE as you're another person who has mentioned how great it is recently.

I'm happy with that level of income as I won't have big overheads. I'm quite simple in my tastes so I don't need to fund a luxury lifestyle.

I was planning on investing and improving my own home so that I can enjoy my lifestyle in the moment and cash in when it's time to downsize. One thing I've realised with planning for the future is that not everything is certain. I'm going at it two pronged... pension and property. Whilst trying to not get too obsessed with saving for the future at the cost of the now. It's needs to be a balance.

This a good thread. I want to add an important point. I worked in the public sector and retired early in 2015.
I was an academic in this area and calculated the pension I expected. The pension I got was significantly less than I had calculated.
It took me 8 months to get it sorted out and get the pension I was entitled to.
Pension companies can, and do, make big mistakes. Don't be afraid to ask for your calculation and check it.

I would challenge your comment that annuity rates have been poor "lately".

They certainly were poor for many years whilst interest rates were low.

But as you say now interest rates are back to more normal levels the rates have improved a lot.

I agree with you that whether to buy an annuity or not with a DC fund is a HUGE financial decision, and one which people would be well advised to consult an IFA about, but I certainly wouldn't discount it based on rates being "poor" as they aren't.

Very true, 'lately' was the wrong word.

One thing that gets me is that so few people understand the history of the State Pension and what it was intended to do. When it was introduced, the pension age for men was, at 65, actually beyond life expectancy at the time.

It was intended to be neither a long term benefit nor a universal one. It was to save the lucky ones who had reached a certain arbitrary age the indignity of dying while still working, or of having to work in age-related poor health.

From this, a series of assumptions about what the old age pension should fund were made. It was assumed, for example, that you would still have your 'Sunday best' shoes and clothes, and that they would see you out. It was assumed that your home was fully furnished, and that all your other possessions would see you out. The pension was designed to fund your weekly groceries, coal for the fire in winter, a pint or two down the pub after church on a Sunday and, er, very little else. And it was only intended to pay out for a few months because, statistically, you were quite likely to die within that timeframe.

It was never intended to fund the running of a car, new clothes, replacement washing machines or computers, holidays, or any of the other things that 21st century pensioners have come to expect. That is why it won't fund all of those things.

Anyone relying on just the state pension is living in a fool's paradise.

@ftp
4.If you are asked to top up your state pension, and are married, then think carefully if you need to, as your spouse's contributions may give you entitlement.

If it helps anyone else, I’m not convinced this point is still the case (it used to be so).

e.g. my DH died just before SP age, paid in from age 16.
Based on my DH 40 years contributions I receive just £10.00 per week based on his contributions on my own SP. (I had to purchase extra years in addition, also worked 40 years).

(Also, for financial planning purposes, if you are married, consider that in retirement, when one partner dies the remaining partner loses the joint income you both had from their employment and pensions).

Entitlement to a deceased spouse's pension depends on the scheme.
If my DH died, I would inherit half of his DB scheme and his small DB scheme.

I wouldn't get any of his state pension, but of course would still have my own pensions.

He's still very much alive and kicking thankfully!

DC pensions take quite a lot of work to manage.

. It's very important to think about charges.
. It's important to think carefully about what your funds are invested in at different points on the way, to balance risk vs returns appropriate to the stage you're at. E.g. I'll be retiring next year so shifting some out of 'growth' funds (stocks and shares etc - better returns over the long term but can be vulnerable to dips short term) into money market funds (lower returns, much safer).

I think one of the biggest misconceptions about the state pension is that your NI contributions pay for it, or that National Insurance funds the NHS. In reality, National Insurance is to all intents and purposes just a second form of income tax, and it all ends up in the same pot.
As the OP says, NI contribution years are important in qualifying for a state pension, but the contributions themselves do not go into some ringfenced pension fund.

Great post!
It might have been said but can I add that higher rate tax relief is subject to a self assessment tax return. It is not automatic. Relief at source is basic rate only. Also, the vast majority of pension provision is relief at source but some SIPPs are not. Possibly other types too, but I only know a little about SIPPs so won't can't say for sure. It is unusual but it can depend on the type of investment you hold. So, check with your provider.

What advice would you give to someone who has no pension in their mid 40s, but has around £20k in savings?

Probably some old work pensions to be found & combined but nothing major. Is it too late?

It's never too late, but you will need to start putting as much money as possible away now and be realistic about when you retire.
Firstly, can you earn more? Either in employment or start a side business - then put that into a pension plus stocks and shares ISAs?

20 odd years of working is still quite a long time to save and for investments to grow so personally I would be focussed on improving my pension situation and avoid the risk of poverty in retirement.

This is very helpful thank you! I find it all very confusing.

Definitely not too late. You must have a work pension scheme with your current employer? You have to actively opt out these days.

But definitely start paying into a pension for the tax benefits alone. And if it's a work scheme, your employer will contribute too.

If you can top up too, then you'll really realise the benefits.

.

Do you know when your state pension will be available to you?

Do you know where you might find out?

We have amazing technology these days that allows people to find out information in a way we could only have imagined in 1995.

From the waspi site : www.waspi.co.uk/background-information/
(until the 1990s many women weren’t allowed to join company pension schemes, many of us are carers or in poor health)

So I ask again, do you know when your state pension is due to you? If you're young the chances are it'll change several times before you reach even the first age you were told.
We should all save for our old age. But if you're on low wage supported by UC then you can't save it outside of a pension scheme, and for most people supported in employment by UC then you're probably not able to put very much in. After all, if the govt thinks you need top-up it's because it doesn't think you have enough money to live on.

Getting old is going to get harder. The govt needs to get better at spending taxpayers money.

This is not a one size fits all. Do trace your pensions asap. because without that info, a lot depends on your circs:

1. Do you pay rent? If so, getting pension credit (which depends on your total income), will entitle you to help with that. (which you get if you do not have a full pension and less than £15K savings), winter fuel allowance, dental (LOL) help. Paying into a pension may scupper this.
2. How many contributions are you short, and how much will you need to make any up?
3. Have you children? Did you claim your contributions for not working while they were in school?
4. Are you short because you were unemployed? Talk to DWP about claiming any that your should have received while out of work
5. Are you short because you were ill? See 4.
6. Do you know how short you are? Check on the gov site.

As to personal pensions, the same applies

1. Trace and get projections - if you have any index linked, you may be surprised (my personal 13 years between 73 and 87, with a final salary of £11K nets me £475 pcm)
2. Are you in a good job with a company contribution and expect to be there for some time? If so discuss with your pensions dept/ actuary what their projection might be. Check if they offer index linked, which are usually well worth taking
3. You have to be offered a workplace pension which travels with you if you do change jobs, but I think (not sure) for permanent employees.

As to your savings, decide if you can get by without them for c15 years - pension pots, get tax relief and are performing much better than high street savings (even with feed) but you wont get access until 55.

@ VWT5 This what it says, so while younger folks may get less than I would, a lot will depend on spouse's age.

You may be able to inherit some of your spouse's State Pension if:

They reached State Pension age before April 6, 2016
They deferred or stopped taking their State Pension
You were married or in a civil partnership with them when they died
You didn't remarry or form a new civil partnership before you reached State Pension age

What you may be able to inherit:
Contributions your spouse made up to 2015/16, which can improve your basic state pension up to 100% of the full rate
At least 50% of your spouse's "additional" state pension (often called SERPS) if they built it up before 2002
50% of your spouse's State Second Pension if they built it up between 2002 and 2016
50% of your spouse's Graduated Retirement Benefit if they built it up between 1961 and 1975

They don't go into a pension fund, but they do go into the national insurance fund, which covers all contribution based benefits including the state pension. Part of the fund goes towards the NHS, but only a small proportion.

Yes, but that is really just a bookkeeping exercise. When the National Insurance Fund is in surplus, the surplus goes towards general spending (or it's used to reduce government debt, same difference.) When it is in deficit, it is topped up by the treasury. The net effect is that it is not separate from general spending, and it's more or less accurate to think of it as all one pot.

So, having raided any surplus, and, because they did not project into the future, they tried to balance things by raising pension age and then raising it again, there is no money to help those caught in the middle.
Yes, I DID know in plenty of time that I was going to have to work to 62+, but born between April 53 and 55 who also knew they were going to have to work extra suddenly found their dates shifted further into the future, and those born in the later 50s who also knew they were going to work to 65, now find that they are expected to work an extra 3 years until they are 68! And to add insult to injury, where they fully expected to be able to count on hubby's contributions to give them a decent pension, because they did not get childcare contributions (these are a more recent addition), are finding this is not the case either.

But let us not forget us older folks - the triple lock that sees our pension keeping pace with inflation does not apply to SERP, state 2nd pension.