“I don’t understand my pension statement”
Each year, your pension provider should send you an updated pension statement in the post. With retirement often seeming a long way off, it can be tempting to file it away somewhere without giving it a second’s thought. But as retirement approaches, you might start to wonder “what does my pension statement mean?”.
This short blog will help you to understand:
“What’s the difference between Defined Contribution and Defined Benefit pensions?”
“What are my pension options at retirement?”
“When can I draw money from my pension?”
“What’s an annuity?”
“How do Defined Benefit pensions work?”
Defined Contribution vs Defined Benefit pensions
Defined contribution pensions
Most pension arrangements nowadays are ‘defined contribution’ (DC) schemes, (sometimes referred to as ‘money purchase’ schemes). These can include personal pensions (those you’ve set up yourself) or workplace pensions (set up by your employers).
This type of pension is essentially a retirement savings plan (with specific tax incentives and restrictions), whereby contributions from you and/or your employer accumulate in a fund, which you can access when you retire. The pension fund will normally be invested across a range of different assets, the values of which can go up or down, depending on movements in the stock market.
Your DC pension statement should tell you:
1. How much your pension fund is currently worth.
2. When you can start withdrawing money from your pension (The earliest is currently from age 55 - due to increase to 57 by 2028).
3. What the value might be when you retire
4. Whether there are any special features or guarantees applicable
Your statement will also give an estimate of how much income your pension fund could provide you in retirement. This estimate will assume that you use your pension fund to purchase an ‘annuity’. An annuity is a financial product that provides a guaranteed income for the rest of your life in exchange for a lump sum payment. The amount of guaranteed income you can secure for a given amount will depend on your age, state of health and other factors considered by the actuaries who price these products.
It’s important to note that – since ‘pension freedoms’ in 2015, you are no longer obliged to purchase an annuity.
Each pension arrangement will offer different withdrawal options at retirement. For example, if you’d prefer a more flexible retirement income (but without the guarantees), you may decide to opt for ‘flexi-access drawdown’. This will allow you take income from the pension fund as and when you need it. Not all pension arrangements offer flexi-access drawdown – if this is the case, you may need to transfer to another plan, if this is how you’d like to access your benefits.
Please note: the tax implications of pension withdrawals will be based on your individual circumstances, tax legislation and regulation which are subject to change in the future.
Defined benefit pensions
The other main type of pension are ‘defined benefit’ (DB) pensions (also referred to as ‘final salary’ pensions). These arrangements work differently in that the amount you can expect to receive at retirement is not based on an accumulated fund value. Instead, it is based on a mathematical formula (specific to each plan) whereby your entitlement depends (among other factors) on the number of years you worked for an employer and your salary.
Your DB pension statement should show:
1. Your ‘Pensionable Service’ – how many years you were or have been a member of your defined benefit scheme.
2. What your ‘Pensionable Salary’ was/is.
3. The ‘Accrual rate’ – the rate at with your benefits built up over time.
4. What your pension benefits are projected to be at retirement.
Unlike DC pensions, the benefits will be expressed as a guaranteed income for life (much like an annuity product, explained above).
Whichever type of pension arrangement you have, paying close attention to your annual statements will allow you to start planning for retirement properly.
Get in touch
If you would like help understanding your pension statement and retirement options, please email Daniel@wiltshirewealth.com or call 01225 699790.
Please note:
A pension is a long-term investment not normally accessible until 55 (57 from April 2028). Your capital is at risk. The value of your investment (and any income from them) can go down as well as up. Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor. Tax rates quoted are based on the 2020/2021 tax year.
