Money-purchase Schemes

A money-purchase pension scheme is a very different animal from a final-earnings scheme. By the money-purchase method a stated percentage of your earnings is paid into a pension fund each year, which builds up through reinvested interest and capital appreciation. On your retirement the share of the fund represented by contributions in your name is used to buy an annuity or pension for you.

In some cases these pension schemes are non-contributory (i.e.the cost is all borne by the employer), but in most cases contributions are made by both employee and employer. Such schemes are usually managed either by a life assurance company or by a firm of professional pension managers. If the pension benefits are insured the contributions are used for paying premiums on a group pension policy, the policy being issued to the trustees of the scheme.

A money-purchase pension scheme is often set up for single individuals, and this method is very common in small firms or companies with only five or six employees. In such cases the contributions might be expressed not as a percentage of salary but as a fixed level amount. If a contribution is a fixed amount it will be necessary for an additional policy to be written every few years in order to keep your contributions and pension rights more or less in line with your higher salary.

Pension schemes under the money-purchase method cannot qualify for contracting members out of the state scheme.

The essential difference between the finai-earnings method and the money-purchase method is that with the latter the cost is fixed, the extent of the benefits being determined by whatever can be bought in the market with the available money at the relevant time; whereas with the former the extent of the benefits is fixed (or if not fixed is determinable), the cost to the employer being whatever is needed to attain the required result in benefits. It is impossible for a money-purchase pension to be related to earnings.

Contributions to a money-purchase scheme are allowable for tax relief, as with a final-earnings scheme.

Contracting Out

Suppose that you are a member of a contributory funded group pension scheme, and that you are contributing 5% of your pay and the employer 10% - a total of 15%.

Bear in mind that both you and your employer are also making contributions towards benefits under the state pension plan, and that these are, in 2001/82, at a combined rate of 17.95% (7.75% + 10.2%). Now, since the government recognises that many people are already in good occupational pension schemes it may be possible for your company pension scheme to be arranged as an alternative to, instead of as an addition to, the state earnings-related... see: Contracting Out

Personal And Business Finance 2018

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