If you read nothing else, read this …
• Pensions remain a popular benefit among employees.
• Employers acknowledge their importance by contributing to them and replacing the schemes they close with equivalents.
• Contributions to pension schemes are not subject to national insurance (NI). Alternative saving schemes are paid out of money that has already been taxed and and been subject to NI.
• A proportion of the pension fund may be taken as tax-free cash.
• Employers’ bulk pensions purchasing power enables them to negotiate excellent terms.
Final salary pensions were once considered the Rolls-Royce of pension schemes. Today, there is widespread disillusionment with them. It is merely the latest factor in an inevitable anti-pensions mind-set. No wonder the viability of workplace pensions has been called into question. Yet industry experts appear unanimous in backing them as the best way for employees to save for retirement.
Stewart Ritchie, director of pensions development at Scottish Equitable, says: “If there’s one thing I’ve learned in 30 years in pensions, it’s the importance of the workplace pension provision.”
Damian Morrish, principal, group benefits at IFA firm Punter Southall Financial Management, agrees, pointing to the popularity of workplace pensions among employees. With their bulk buying power, employers are also in a much better position to negotiate good terms for their employees than individuals that are investing in pensions. For example, employers can often push for much lower charges on group pension schemes.
Morrish argues that employers themselves are committed to pensions, usually contributing to the schemes. Although many are closing their final salary plans, most will look to provide roughly equivalent benefits for their employees, recognising that they cannot afford to be less generous than their competitors. Morrish says: “[Not providing a workplace pension] would be bad for staff morale and you would see people walking out the door.”
Mike Wadsworth, a partner at Watson Wyatt, says evidence shows that pension payments in the workplace tend to be larger. Also, employees find it helpful to have the support of their employers in choosing a pension and a provider.
So what are the alternatives? Scottish Equitable’s Ritchie points out that money paid into an Isa or employee sharesave scheme has already been taxed, and the proceeds are taken tax free. However, pension schemes work the other way round with tax relief on contributions and the proceeds subject to tax. It could be argued that, with pensions, a larger amount may be invested at the beginning and there may be scope for lessening the tax burden by the time the benefits are taken.
He cites two main advantages of pensions over the other two methods. Firstly, the employer pays no National Insurance on contributions and secondly, employees can receive a proportion of their retirement fund as tax-free cash. Another alternative, he suggests, is residential buy-to-let property. Unfortunately, not only does it represent a concentration of risk for a retirement fund, under the current rules, gains may be subject to capital gains tax.
However, among the new pension rules set to come into force in April 2006, will be the ability to hold residential property in a pension. While that should even up the score as far as tax relief is concerned, probably the only viable arrangement would be a self-invested personal pension (Sipp). The contribution would have to be quite substantial as charges on Sipps that hold property are usually high. Ken Dierden, a partner at law firm Freshfields Bruckhaus Deringer, suggests that salary sacrifice is likely to be an answer. Not only would that ensure a larger contribution, it would be free of NI. While this is the most suitable proposition for a well-paid, high-ranking employee; workplace pension schemes, sponsored by an employer remain the most viable option for the mass of ordinary employees.