We now come to pension benefits; the design of the scheme ensures that benefits reflect the contributions made and the duration timescale over which they occur to give a fair return.
The aim should be based at 6% of final funds with inflation increases of 2.5% per year, which should be readily achievable on current contribution levels and longevity projections. A modest investment income of 4% would sustain this payment level.
A basic minimum of 50% of the National Average Wage should be the level at which benefits are set, although a lower level at 40% may be necessary in the early stages. Once this is reached, benefits should reflect the earnings of the individual on a final wage based on the wage index, effectively this would give the average individual wage with inflation increases.
Higher earners benefit from their increased contributions and the scheme would be flexible to reflect extra contributions etc. At the end of the day, benefits will reflect the fund value at retirement as in current private schemes, except when this value falls below the minimum, when make-up could occur.
Welfare pensions should remain the responsibility of the State with the option to contribute into the scheme, however the grey area of low wage or intermittent employment will depend on the transition provision and scheme success on growth.
The State could however contribute on behalf of low earners or periods of unemployment, similar to the make-up of NI contributions, it would certainly be cheaper than paying a welfare pension. There could possibly be a basic entry level to provide a pension of 28% of NAV, which would be close to the proposed State universal level of £140 pw.
Investment growth is the key to any successful pension scheme and combined with payment levels sets the contribution levels required to provide acceptable pension payments. The universal contributory DBS set modest levels of 4% with target aims of 6% invested in more stable and sound areas in some form of mutual Pension Society, although it could be attractive to existing providers.
To provide a pension of 28% NAV at 4% growth over 40 years requires contributions of 8% NAV, currently some £40 pw; this would be inside the NI rebate opt out of State pensions suggested in Blog16. Of course unemployed and low earners pay no NI, so it would be a State subsidy.
Transition from an unfunded State pension to a funded independent scheme will always be difficult, especially in the early stages, but would ease as funds build up, particularly if higher growth occurs. The State will also be faced with a reducing pension bill and could therefore afford to be more generous.
The big advantage at the present time is that contribution levels are high and annuity levels low, which should allow sufficient slack if well-managed, there is also a high demand for investment capital.
One of the contentious areas could be the removal of the tax free lump sum, which many rely on to clear debts at retirement. This increases contributions by a third and is not cost effective; the money would be better spent in clearing debts / mortgages during the working life. It also conflicts with the aim of keeping contributions affordable.
Overall the time for a guaranteed “value for money” pension scheme is well overdue; the State, public sector and private pensions do not deliver, except for the failing Company DB schemes. The uncertainty of retirement needs correcting, particularly in view of increasing population demands, which make self sufficiency the only way forward.
Individuals need to demand their rights, those in work make major NI and contribution payments, ever increasing but with steadily reducing benefits. The proposed changes offer one way forward.
Savings Annuities Public Sector NHS Teachers Police Local Government Hutton State Pension
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