Pension problems looming large

SCOTS banking on their company pensions to set them up for a comfortable retirement suffered a further blow this week as new research revealed that more employers are to slash their pension commitments.

Accountants PricewaterhouseCoopers published a survey showing that 96 per cent of companies are planning a pension scheme shake-up, while the same proportion believe defined benefit (final salary) schemes are now unsustainable.

Most defined benefit (DB) schemes are now closed to new members, in the private sector at least. And the private companies still offering DB pensions – where they guarantee the size of an employee's pension pot – three- quarters are considering closing them to existing members.

Many of the UK's biggest employers have frozen their DB schemes to existing members, most recently Barclays and BP. The only FTSE 100 companies still offering a DB pension to new recruits are Shell, Tesco, Cadbury and Diageo. And, as outlined on page 43, the defined contribution (DC) pension arrangements into which private sector employers are shifting workers are significantly less generous.

Marc Hommel, partner and UK pensions leader at PwC, commented: "A combination of the 2009 Budget proposals and the recessionary economic environment are accelerating the shake-up in UK workplace pension provision. Employers are conducting wholesale reviews of the role of pensions as part of their employment deal and a greater diversity in pension provision is resulting."

Workers at companies closing their final salary scheme are strongly advised to take independent financial advice. A range of issues have to be considered, such as whether existing members can still accrue benefits, the alternative being offered, how transfer values are being calculated and the risks in transferring to a DC scheme.

For workers in companies scaling back their pensions provision, the long-term implications could be damaging, said Graeme Forbes, chartered financial planner and director at Intelligent Capital in Glasgow.

"I think the difficulty is that people simply will not compensate for the decline in employer provision and a huge part of the private sector population is in serious danger of ending up in penury," he said.

So the onus is increasingly on employees to find ways of compensating for the decline in company provision. Here are the main options:

• Increase workplace pension contributions: An obvious option is for employees to make bigger contributions to workplace pensions, said Paul Lothian, director of Verus Chartered Financial Planners in Dundee. "There is a rule of thumb that total DC pension contributions as a percentage of salary should be 50 per cent of your age at the point of joining to replace 50 per cent of your salary at age 65." So, someone joining a DC scheme at age 40 needs to consider paying in 20 per cent of gross salary. If the employer pays 5 per cent, then this means 15 per cent from the employee.

Individual savings accounts: Their tax-efficiency means Isas should always form a part of investment planning. The annual Isa allowance is 7,200, of which up to 3,600 can be in a cash Isa.

The allowance will be hiked to 10,200 later this year for over 50s and for everyone else from next April. The interest from cash Isas is free of tax, while the growth from stocks and shares Isas is free of capital gains tax.

• Personal pensions: These can be arranged through an insurer, bank, building society or financial adviser. Investors can make regular or lump-sum payments and get tax relief at their normal rate, up to an annual allowance of 235,000. Charges average about 1.5 per cent a year and the number of funds available in personal pensions is on the rise as the market becomes increasingly competitive, so it's worth shopping around.

Tom Munro, director of Tom Munro Financial Solutions, commented: "Regular reviews are vital to ensure you are not overexposed to any one asset class depending on where we are in the economic cycle, and virtually all personal pension providers will offer an extensive range of external fund links to all the UK's leading investment groups."

• Stakeholder pensions: This is a good, low-cost place to start for those not looking for a wide range of investment options. Stakeholder pensions are basic money purchase schemes with maximum charges of 1.5 per cent a year for the first ten years, dropping to 1 per cent a year after.

These are ideal for cautious investors or those nearing retirement age, according to Munro.

"Running costs are significantly reduced and although fund choice generally suffers as a result, the narrower range on offer are normally low risk, and therefore more suited if taking benefits are not long off."

• Sipps: Investors looking for more choice and control could opt for a self-invested personal pension. As the charges are higher than on personal pensions, they are generally aimed at investors with a fairly large pension fund (most IFAs recommend them for clients with around 100,000 or more).

Low-cost Sipps include cash, shares and unit trusts and investment trusts while the more comprehensive wraps, which tend to come with set-up costs of around 300 plus annual fees in the region of 500, offer a range of esoteric investments in addition, including commercial property.

"Sipps offer more choice of investment, with low-cost options available for those who wish to invest directly into funds rather than commercial property where the provider simply removes some options from the arrangement," said Munro.

• For more information call the Pensions Advisory Service on 0845