Retirement Defined contribution pensions Employers no longer want to bear the risk of a longer life expectancy and investment performance Over the past few years there has been much media publicity about the move of many employers to close down their final salary pension schemes and replace them with defined contribution schemes, also known as money purchase schemes. Defined benefit schemes were for many years far more common. They promised the member a set annual income in retirement, based on the number of years’ service and the salary when the employee left the company. The employer would bear the risk of a long life expectancy and investment performance. But now this has changed and as a result many employers have closed defined benefit schemes to new members (and in some cases to existing members too), and replaced them with defined contribution schemes which transfer all these risks to the employee. This is only an issue for employees of companies and charities. Public sector workers are still entitled to final salary pensions. However, if you have recently been subject to a scheme change or if you’ve just become a member of such a scheme, let’s consider what they are. A defined contribution, or DC, scheme takes contributions from the employer and employee and invests them over the long term to build up a sum of money to fund the employee’s retirement. The employer’s contribution is normally bigger than the employee’s, and both are calculated as a percentage of salary. Schemes which replaced defined benefit pensions tend to be more generous. A fairly generous scheme may offer a 10 per cent employer contribution with a 5 per cent employee contribution. Some employers may offer higher contributions for older employees, but new rules against age discrimination could put a stop to this. Scheme members can sometimes choose from a menu of funds: actively and passively managed equity funds, commercial property funds and bond funds. Many DC schemes may only have one investment choice – a ‘balanced managed’ fund – which will spread your investments across a range of asset classes. Many schemes offer a default asset allocation, which usually starts with most or all of your money invested in equities, and moves more money into bonds as you get older. You can make additional voluntary contributions (AVCs) or top-ups. AVCs may be invested in the same way as the main contributions, although you may also be given a choice of different funds. In order to encourage pension savings, the Government grants tax relief on your contributions at your highest rate of income tax. So if you are subject to the top rate of income tax of 40 per cent, you will only sacrifice £60 of take-home pay for every £100 you put into your pension fund. Your fund will have to pay some tax on dividends from equity investments, but will not be subject to capital gains tax. Once you start receiving your pension it will be subject to income tax, but you can take a tax-free lump sum of 25 per cent of your savings on the day you retire. If you require any more information on this subject or would like to review your retirement planning position, please email or contact us for more information.   The value of units can go down as well as up. Past performance is no guarantee of future returns. Levels and bases of, and reliefs from, taxation are subject to change. Levels and bases of, and reliefs from, taxation are subject to change. Quote source: FT Media 18.05.06