Your Financial Architect’s Guide to Pension Schemes
Occupational Pension Schemes.
Occupational pension schemes are pension arrangements that
are set up by employers to provide income in retirement for
their employees. Although the employer is responsible for
sponsoring the scheme, it is actually run by a board of trustees
- with the exception of most public sector schemes. It is
this board of trustees that is responsible for ensuring payment
of benefits.
There are two different types of occupational pension scheme
- money purchase and final salary. The following is a simple
explanation of how each of them works:
Final Salary
Final salary schemes are sometimes known as defined benefit
or salary related schemes. Members contribute to the scheme
with the promise of a certain level of pension. The amount
of pension payable from such a scheme is dependent upon:
the length of time served in the scheme (known as pensionable
service)
earnings prior to retirement (known as final pensionable salary)
the scheme's 'accrual rate'. The accrual rate is the proportion
of salary that is received for each year of service. So, if
the scheme has an accrual rate of 60, the member will receive
1/60ths of his final pensionable salary for each year of service
completed.
For example: (pensionable service x pensionable salary)
/ 60
Money Purchase
Money purchase schemes are sometimes referred to as defined
contribution schemes. Employers and employees contribute to
the scheme. You decide where the money is invested and each
scheme member builds up a 'pot of money'. The amount of pension
payable from this scheme is dependent upon:
the amount of money paid into the scheme (by the member and
the employer)
how well the investment funds perform
the 'annuity rate' at the date of retirement. An annuity rate
is the factor used to convert the 'pot of money' into a pension.
Other types of pension plans
If you are self-employed or not in a Company pension scheme
there are a few options available if you wish to save for
retirement in a pension arrangement. Those options are –
a personal pension plan, a stakeholder pension scheme or a
self-invested personal pension plan (SIPP).
Personal Pension Plans
A personal pension plan is an investment policy for retirement,
designed to offer a lump sum and income in retirement. It
is available to any United Kingdom resident who is under 75
years of age.
They are money purchase arrangements. This means that a member
contributes to the plan, the money is invested and a fund
is built up. The amount of pension payable when the member
retires is dependent upon,the amount of money paid into the
scheme, how well the investment funds perform and the 'annuity
rate' at the date of retirement. An annuity rate is the factor
used to convert the 'pot of money' into a pension.
Currently the member can retire at any age between 50 and
75. From 6 April 2010, the minimum age will rise from 50 to
55. When he does retire, he can generally take up to 25% of
the value of his fund as a tax-free lump sum. The remainder
of his fund must be used to buy an annuity with an insurance
company or utilise Income drawdown (Unsecured Pension).
Stakeholder Pension Schemes
A stakeholder pension scheme is a type of personal pension
plan. In other words, it is a money purchase arrangement designed
to provide a lump sum and income in retirement. Like a personal
pension plan, it is available to any UK resident under the
age of 75.
A stakeholder pension scheme has been designed to incorporate
a set of minimum standards laid down by the Government. These
include:
a charging structure capped at 1.5% of the fund each year
for the first 10 years and 1% a year thereafter;
no penalties on increasing, decreasing, stopping and restarting
contributions;
no penalties on transferring the fund to another pension arrangement;
and
a minimum contribution of £20.
Personal Pension (SIPP)
A SIPP is also a type of personal pension plan. It follows
the same basic rules with regards contributions, tax relief
and eligibility. The difference is the investment freedom
that a member has and the ability to borrow against the fund
for further plan investments.
A conventional personal pension generally involves the plan
holder paying money to an insurance company for investment
in an insurance policy. The choice of investments is limited
to that offered by the plan provider.
A SIPP allows the plan holder much greater freedom in what
to invest in and for the plan to hold these investments directly.
The plan holder can have control over the investment strategy
or can appoint a fund manager or stockbroker to manage the
investments.
The SIPP itself is established under a trust. The trustee
controls the investment under instruction from the member.
It is possible for the plan holder to be the trustee. If this
is the case, an approved administrator must be appointed to
carry out investment transactions.
A SIPP can borrow money against the value of the fund for
investments that the trustees consider will benefit the scheme
(for example, commercial properties). It can borrow, at any
time, up to 50% of the scheme's assets.
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