Money purchase schemes are generally more straightforward than salary related schemes as each member is simply building up their own fund which they will use to buy an annuity when they need to draw a pension. The basic test therefore is how much does your employer put into your scheme.
But there are still differences between schemes. They can be run in different ways, and can offer some benefits in addition to a straightforward pension.
What type of scheme?
There are two basic ways that money purchase schemes can be set up by your employer (or group of employers in some industries).
It's not possible to say that one of these is always better then the other, though it probably needs to be a large scheme to make an occupational money purchase scheme worthwhile because of the costs involved.
In a company with high staff turnover or which lacks long-term security, stakeholder pensions and GPPs (Group Personal Pensions) have the advantage that a well-established insurance company will be looking after your money, and this may make it more straightforward when you change job.
What contributions does the employer make?
This is the most important factor when judging a money purchase scheme. Your pension will depend on how much you and your employer put into your own individual pension pot. The more you can save the better, but it's clearly better if the contributions come from your employer.
Employers do not need to provide a stakeholder scheme if they are making three per cent contributions to a GPP, but this is far from generous. Most experts recommend that you should aim to save 15 per cent of your pay (more if you don't start a pension until you are older) in order to retire at a reasonable age with a reasonable pension, and most people consider it fair if employers contribute at least twice as much as their employees.
A good employer contribution would therefore be around ten per cent, leaving you to contribute five per cent. On top of this the employer should pay the costs of other benefits in the scheme such as death in service or disability benefits. Some pay more. Many employers who offer a stakeholder pension as their only pension option make no contribution at all.
Sometimes how much the employer is prepared to put in will depend on how much you are willing to save, and may vary by age. For example they may be prepared to match your contribution or make a minimum contribution, but pay more if you are prepared to pay above a particular threshold. You should make sure you understand the rules and aim to maximise what your employer pays if you can afford it.
What investment choices do I have?
As everyone has found in the last few years, investing in stocks and shares is no sure thing. The value of investments can go down as well as up. In a money purchase scheme your pension will depend on how well your funds are invested. Over time, experts are sure that money invested in stocks and shares will grow more than money invested in other ways.
But the important phrase in the last sentence was 'over time'. If you are looking to retire in thirty years then more risky or volatile investments make sense. If you are due to retire in a few years' time then you will want your money in safer investments that may not go up much, but won't fall in value.
Good money purchase schemes should give you a choice of different funds in which to invest. Different people have different ideas about how much risk they want to take and which kinds of investments they prefer.
Some schemes operate what is called 'lifestyling'. They automatically shift your fund into safer investments as you approach retirement, but you should check that this is in line with your plans. If you want to take early retirement, you may want to shift your investments earlier than a colleague who wants to retire later.
Are there other benefits?
Final salary schemes can provide a range of benefits from within their own resources as there is one fund that covers all benefits and pensions. With a money purchase scheme you are building up your own pension pot, with which you will buy an annuity and take, if you wish, a cash lump sum. There is little scope therefore for any extra benefits from a money purchase scheme. If you die then your pension pot will be available for your dependents, but nothing extra from the scheme.
However, many employers alongside their money purchase pension will take out insurance policies to cover staff, and these may provide life assurance if you die or an income if you become too ill to work.
Normally the employer bears the cost of these, but you should still watch the small print. Some will exclude some types of disability such as HIV- or AIDS-related illnesses, or sports injuries.
A good scheme should pay up to two-thirds of your earnings if you become unable to work, and four times your salary as a death in service benefit.
What happens to early leavers?
Few people work all their lives for one employer, and it's common to retire after building up pensions with a range of employers. When you leave a money purchase scheme, it is normally made 'paid up'. It will be left to grow and each year the provider will deduct a charge from it. You can transfer the money to another pension provider but you may face charges for this that make it better to keep your pension paid up. If you want to start contributing to it again you may face further charges.
The rules for stakeholder pensions are more favourable. Annual charges are limited to 1.25 per cent, you can transfer your fund without charge and you cannot be penalised for stopping, starting or varying your contributions.
You can now shop around for an annuity
Different annuity providers can vary a great deal in the amount of pension you can get from your pension pot. It used to be the case that some pensions schemes tied you to one annuity provider, but since April 2006 this has not been allowed - all pensions must offer what is knows as the 'open market option' (OMO) – the chance to buy the best annuity for you.
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