Pension Value Question

[rj2010]

I have tried to simplify this, I have received my annual private pension summary estimating an annual pension of £4000 at age 65. I'm 45 now.
Between myself and my employer we are paying £6000 a year into this scheme. Why should we continue throwing money into a pot that is estimated to return less than paid in - would I not be better off putting my money under my mattress ?
If my maths are correct I would need to live to over 95 to just about break even on this investment.
What am I missing ???

[Buenchico]

You've not stated how long you've already been paying into the pension scheme. If you've been paying in for quite some time, it's possible (and, indeed, likely) that the estimate you've received is based upon the notion that you're about to quit your job and cease paying into the scheme. (i.e. it ignores what you and your employer will be paying into the scheme in the future and is simply based upon the current value of your contribution plus they're expecting earnings).

[Buenchico]

^^^Typo! (I really do know the difference between "their" and "they're"; I must just be suffering from alcohol deficiency at the moment!).

[Buenchico]

The more I think about it, the more I'm convinced that my answer above is likely to be correct.

Pension contributions are normally a certain percentage of earnings. A pension forecast has no way of knowing what promotions you might receive while still with your current employer, what pay rises that employer might give you, whether you'll voluntarily start paying larger pension contributions or whether you'll even stay with your current employer (or, if you do, whether you'll stick with the same pension scheme).

So it's almost certainly based solely upon what has already been paid into the scheme (plus any interest or dividends that have been added to those payments) and totally disregards what might happen in the future.

[ubasses]

Buenchico is correct, they take what you have paid in to date and no more. Next year's statement should show an increased amount if you keep contributing.

[rj2010]

Thanks for your answers so far, but I don't think they can be correct. I have been paying into this scheme for two years now and last years statement showed an estimated annual pension of £4600 (with the same contributions I am still paying) so it has actually reduced.

It can't be based on the assumption that I'll stop paying in - if that was the case a £4000 annual pension for a contribution of just £12000 over the 2 years) would be remarkably generous !

[ubasses]

It will be taking into account that the £12000 will be sitting there for another 20 years with all the dividend income going into it and capital growth in the markets. In 20 years with all the income reinvested in the markets your pension fund could be around the £40,000 mark assuming around 3% per year income. Add any capital growth to that (well that is the unknown)

[Buenchico]

You need to read the small print that comes with your pension estimate to see what it is based upon. Up until recently any such estimate would assume that you were going to use your pension pot to purchase an annuity but, now that you're free to do what you like with your pension pot (from the age of 55 onwards), things have changed greatly.

See here
https://www.moneyadviceservice.org.uk/en/articles/options-for-using-your-pension-pot
and also use the calculator here to see if you get a different figure to the one you've been given
https://www.moneyadviceservice.org.uk/en/tools/pension-calculator

[Hymie]

Before deciding to make alternate arrangements for your retirement, you need to consider the benefit that your employer is also paying into the scheme (I doubt they will contribute to your mattress money).

Most employers match employee pension contributions, many as does mine, pays in 5% versus my 3%. Ignoring the tax benefit of paying into a pension (other tax efficient savings are available), based on an employer only matching your contribution; let’s say at retirement you have a pension pot of £100k. You will have only contributed to half of this amount, of which you can have half (£25k) tax free. Even if you were to decide to buy an annuity with the remained of the money, this would be based on a £75k investment, rather than £25k if only you had paid into the pension scheme.

The above is an illustration of the benefit of an employer scheme – of course it excludes the annual fee paid to the pension company – but you would pay this if you set up a private personal pension.

[fiction-factory]

Your statement should show the value of the future pension based on what you have paid in and another fugure for you projected pension if you work to the retirement age. You need to clarify with your scheme provider

[fiction-factory]

I think your understanding will be right though as the amounts seem too high based on just one and two years' contributions.
One point is that you may be paying in 6000 a year between you but your cost will be less than it seems as you get tax relief on the contributions.
Is it defined benefit or defined contributions?
And is you £4000 a year figure the residual after a 25% tax free lump sum is taken

[fiction-factory]

Is there a reason you are worrying about the employer's contribution? (Perhaps you want to negotiate that he gives some of it to you as cash instead).
If you pay in, say £3000 a year for 20 years (less after tax relief) it's not too bad a deal to get £4000 a year for 25 years.
But you really need to clarify everything with the scheme provider. The devil may be in the detail

[ToraToraTora]

they are talking about an annuity at the end, just one option. It depends on may things but essentially current rates are equivlent to approx 5.3% of total pot value flat. So in 20 years you will have 132k, so that seems low, does it have any guarentee in the quote, eg paid for 5 years mimimum? Is there any escalation built in? eg 5% annual raise? You can shop around at the time you do not have to take your current pension provider's quote.

[fiction-factory]

Have things become any clearer now, rj2010? The pension sounds to me to be a pretty good deal for you assuming you have an average life expectancy.