Defined Benefit Pension Schemes - an Explanation

The type of company pension scheme you have is known as a Defined Benefit or Final Salary scheme.

These types of scheme are universally considered to be the best sort of pension you can have - you should therefore only consider releasing benefits early as a matter of last resort.

One of the reasons why they’re considered to be such good pension schemes is because there isn’t any investment risk borne by you, the member; all the investment risk is the liability of your former employer.

Because of this pension release is only suitable for a limited number of people and circumstances. Although we are not necessarily saying it’s not suitable for you it is important you make sure you are in possession of all the facts before making any final decisions - we always recommend you take your time and do not act in haste.

The following is a guide as to how these schemes work:

When you were working for your old company it was likely that you paid a fixed percentage of your income into the pension scheme; your former employer also contributed into the pension although the amount they paid varied from year to year - in most cases it was significantly more than the amount you paid.

Being in the pension scheme meant you got the promise of a pension when you retired, which was dependant on how many years you worked for that employer and what your final salary was.

The longer you worked for your old employer the bigger the percentage of your salary you would get as a pension in retirement.

When you stopped working for them and left the pension scheme they would have known how many years you were in the scheme for and how much your leaving salary was - from this they would be able to calculate how much pension you would be entitled to at retirement.

However; your retirement age could be many years away from when you left their employment, so the amount of pension they calculated you would get in retirement would be increased each year from the date you left your old employer up to the date of retirement - the idea being that it would keep up with inflation so in real terms it was worth as much in retirement as it was when you left work.

The point is that your former employer doesn’t know exactly how much it’s going to cost them to provide you with the pension you should get at retirement age.

Whatever the cost is for your old employer to pay you that pension, they must find the money. If there is a stock market crash or some other event that means the value of the pension fund reduces, it’s not your problem. You’ll receive the pension you’re promised at retirement and your old employer must pay it.

If you’re thinking of releasing some money from this pension early, and if your former employer won’t let you take it direct from them now, then chances are you’ll have to transfer your pension fund into some kind of personal arrangement and release money that way.

By doing this you would then miss out on all the increases you might have otherwise got had you left this pension where it was in the first place and chances are you’ll end up with significantly less than you’d have otherwise got at retirement.

If there is anything you’re unsure of or at any time you want to clarify a point, please make sure you contact us here at Grove Financial Planning Limited. Telephone Number - 01689 855 866 or Email: info@grovefp.co.uk.

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