An introduction to pension schemes
Why have a pension scheme?
Even young companies and their personnel should think about
pension provision. No one can reasonably expect to live in any
comfort, let alone in the style which every successful internet
entrepreneur should be able to anticipate, without putting
significant sums of money into some form of pension plan in
addition to what the State provides.
What sort of pension schemes are there?
Pension arrangements exist in several forms:
1. Defined benefit schemes
In these, members receive a pension based on years of service
and salary at their retirement. Such schemes are not suitable for
small companies and are expensive for the employer. Both the
employer and employee usually contribute as these are company wide
schemes.
2. Defined contribution schemes
Otherwise known as Money Purchase Schemes, these provide a cash
sum at retirement, which must then be used to buy an annuity. The
amount of the cash sum depends upon how the annual contributions to
the scheme have been invested and how well those investments have
performed. Again, both employer and employee usually contribute as
these are company wide schemes.
3. Personal pensions
As the name implies, these are pension schemes set up by an
individual for his own benefit and will be with an insurance
company. As these are not schemes set up by the employer there is
no obligation on the employer to contribute. As only the employee
will be contributing, unless an arrangement is made with an
employer, the contribution burden for the employee/member to attain
the same benefits is higher than under a Defined Benefit or Defined
Contribution Scheme in which the employer contributes.
Like a Defined Contribution Scheme, benefits at retirement will
depend upon investment performance.
The individual who sets up a personal pension does not need to
be an employee. He can be self employed.
4. Group personal pension plans
Although set up as a company wide scheme,
GPP
s (as
they are known) are really no more than personal pensions for
employees arranged by the employer on a group basis with a single
insurer/ pension provider.
However, the employer may contribute, so it would be less
expensive for the employee/ member than a free standing personal
pension. The ultimate pension benefits will again depend upon
investment performance.
5. Stakeholder
This is the new type of scheme which the government has just
introduced. Anyone, whether employed or not, may contribute up to
£3,600 per annum to a stakeholder scheme. These schemes will be run
by insurance companies and a few other institutions, including some
trade unions.
Every employer who employs five or more persons and who does not
have a pension scheme which is open to all its employees and which
provides such other benefits as are necessary to obtain exemption
from the stakeholder obligation must afford access to a stakeholder
scheme for its employees.
If an employee who could join a company pension scheme chooses,
instead, to join a stakeholder scheme, there is no obligation on
the employer to make any contribution to the stakeholder
scheme.
The workforce will have a right to be consulted as to which
stakeholder scheme is selected by the employer.
What else is important?
There are many other important points to bear in mind in
relation to all pension schemes. A few of these are:
- Tax relief is available in respect of contributions made both
by employers and employees, but only in respect of contributions
comprising a fixed percentage of relevant earnings.
- Tax relief is only available if the pension scheme or personal
pension contract has been approved by the Inland Revenue.
- Inland Revenue approval depends upon the rules of the scheme or
contract satisfying a large number of strict but standard
requirements regarding maximum pension benefits provided for the
member and surviving spouse or other dependants and ages at which
pension benefits may be taken.
- Pension benefits from schemes and personal pension contracts
are taxable, although a tax free lump sum may be taken at
retirement. If a member elects to take the tax free lump sum this
will result in a lower pension becoming payable because the lump
sum must be deducted from the capital which would otherwise be used
to purchase the pension annuity.
What should I do now?
- If your company already has a pension scheme you must seek
advice as to whether or not its terms are such that you will not
have to be concerned with stakeholder pension schemes.
- If your existing company pension scheme does not provide
exemption or if you have no pension scheme you must decide whether
or not you must provide access to a stakeholder pension for your
workforce. This is a legal obligation in the circumstances
mentioned above.
- If you are required to provide access to a stakeholder pension
scheme there is no need to do so before 6 April 2001 but you must
do so by October 2001.
- If you do not have a company pension scheme and do not have to
provide access to a stakeholder pension scheme you need to consider
what sort of pension arrangement you should establish for yourself
and those with whom you work.
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