A Final Salary pension (officially known as a defined benefit pension) is a pension scheme that promises to pay you a guaranteed pension from the day you retire, for the remainder of your life. The amount you are paid is based on your final salary; at the point you retire – which is why they are often called Final Salary pensions. The amount you receive year on year often increases in line with inflation, and there will most likely be a dependant’s pension payable on your death.
Yes, there are two main types of Final Salary pension.
With most pensions, you normally get one statement per year, called an annual or yearly statement, which will provide you with details on the pension and confirm whether it is a Final Salary pension. You can also contact the scheme administrator to find out if it is a Final Salary pension, as opposed to a defined contribution (DC) pension. If you’re still unsure, you may find the answer using the tool on the gov.uk website.
In most cases, the best thing to do with a Final Salary pension is to leave it where it is. They provide you with a guaranteed pension throughout retirement, often with the option of taking a tax-free lump sum in exchange for a reduced pension, and may come with benefits you would lose if you chose to transfer out of the Final Salary pension.
Until April 2015, the remaining part of a pension pot after any tax-free cash needed to be taken as a regular income for life, called an annuity. Since April 2015, when the government introduced “pension freedoms”, people could take as much of a personal pension pot as they liked in one go – with anything beyond the tax-free cash amount being subject to income tax.
For some, this has made transferring out of the Final Salary pension seem more attractive. However, retaining a Final Salary pension scheme is still the most suitable option for most members. We always recommend you seek independent financial advice when considering what is best for you and your pension. For more information, see our Final Salary pension advice page.
You can begin receiving your regular pension payments at retirement age by contacting your pension scheme administrator. Or if you are still working for the company, you may be able to defer your payments until you choose to retire. It is typical for scheme providers to apply inflation for whole years only, so the time of year you decide to take the pension may impact the first inflation increase you receive and you may not receive in increase for partial years at all, depending on the providers’ generosity. Although depending on the benefits you receive from the scheme – rather than focusing on a specific date, you should look at whether it is beneficial to retire slightly earlier or later; depending on the rules of the scheme.
Your guaranteed income is usually based on a percentage of the final salary you were paid, multiplied by the number of years you worked for the company. This ‘accrual rate’ is normally 1/100th, 1/80th or 1/60th of the final salary amount. For example, if you were a member of a Final Salary scheme, with an accrual rate of 1/80th, for 20 years and your final salary was £30,000, the pension scheme would pay an income of £7,500 a year.
Known as commutation, it is normally possible to take a cash lump sum from your Final Salary pension. However, it is more complex than doing so with a Defined Contribution pension (where you have a pot of money with which you can draw from).
With a Final Salary pension, you can ‘commute’ (or give up) some of the guaranteed income in exchange for a tax-free lump sum. The amount of income you have to give up is dependent on something called a commutation factor. For example, with a commutation factor of 16, you would sacrifice £1,000 worth of income for every £16,000 you received as a lump sum.
So, if you were due a Final Salary pension payment of £30,000 per year and wanted to withdraw a lump sum of £16,000 then your annual pension entitlement would decrease by £1,000 to £29,000 as a result of you taking the £16,000 sum.
Most Final Salary schemes will also give you the option of transferring your pension into a defined contribution arrangement, however, in most cases, it is better to leave the pension where it is and retain the guaranteed income. If you are considering transferring your pension, please ensure you seek the proper independent financial advice.
The Financial Conduct Authority takes a cautionary stance with Final Salary pension and has previously warned that “in most cases, you are likely to be worse off if you transfer our of a defined benefit scheme, even if your employer gives you an incentive to leave”. When thinking about transferring your Final Salary pension, it’s important to remember that not only could you be giving up valuable benefits, you will also incur investment risk moving forward, given that you’re sacrificing a guaranteed income that in most cases increases year on year in line with inflation. Pension Works recommend you seek independent financial advice when considering transferring your Final Salary pension.
There are some benefits to transferring out of a Final Salary pension and the independent financial adviser you choose should go through these in detail with you. One example being that Final Salary pensions may stop providing benefits when you and your spouse die. If you were to both die early, then there may be no benefits being paid to your children or grandchildren. With a defined contribution pension the remaining value of your pension can be paid to whomever you wish upon your death. Transferring out may also prove beneficial to inheritance tax planning, due to new rules brought in a few years ago.
It is possible to transfer a Final Salary to a defined contribution scheme. Although if the pension is valued at over £30,000 the Financial Conduct Authority requires you to seek independent financial advice before transferring.
Pension Works can provide you with independent financial advice on your Final Salary pension and tell you whether transferring your pension would be in your best financial interest. Call free today on 0808 164 2664 to find out more.
You will be sacrificing the guaranteed lifetime income payable by the scheme, and potential additional scheme benefits. Depending on the defined contribution pension you transfer to, you may have increased flexibility in how your access and manage your pension.
Each Final Salary pension will have different benefits, such a dependants’ benefits or rising at a fixed rate / in line with inflation. Normally you are given this information when you first joined the pension scheme, in the form of a booklet. If you’re unable to locate this information, the best thing to do is to contact the Scheme Administrator and ask for further information.
If you’re struggling to find details of your Final Salary scheme administrator and are unable to find any statements you have been sent in the past – then it may be worth using the pension tracing service listed on the gov.uk website here.
When you leave the company providing the Final Salary pension, you become a ‘deferred member’ of the scheme, and the pension is sometimes referred to being ‘frozen’ or dormant. It refers to the point you left the company when you and your employer stop making contributions.
If you have a deferred pension, then transferring it may be an option for you. This involves requesting a cash equivalent transfer value (CETV) and then transferring this into the active pension you’re currently paying into or setting up a new fund to pay into. This may give you more control over the fund. Although it’s important to note that some public sector schemes can’t be transferred.
You can obtain your CETV by contacting your pension provider or scheme administrator.
More firms over time are switching their Final Salary pension schemes to defined contribution pension schemes. These are usually more cost-effective for firms because they are not required to pay the guaranteed income to employees which makes them much more attractive to companies.
If you retire sooner than expected due to ill health, it could be difficult to support yourself financially, but your pension may be able to offer you some support to assist you. Thousands of people across the UK are diagnosed with conditions preventing them from continuing to work. Whether you are able to take your pension early due to ill health depends on your Final Salary scheme and their definition of ‘ill-health’.
Usually, the definition is described as: “your physical or mental health is bad enough to stop you from carrying on working, or which seriously reduces the amount you can earn.”
If you believe this applies to you, then you may be entitled to take your pension benefits early and should contact your scheme administrator.
If your pension is valued over £30,000 then the Financial Conduct Authority requires you to seek independent financial advice on your Final Salary pension. This is a service we provide, simply call us free on 0808 164 2664 to find out how we can assist you with your Final Salary pension.
Although you are no longer paying into the pension, the deferred income from a ‘frozen’ Final Salary pension does continue to grow. Over time, the impact of inflation erodes the value of income, meaning that it is worth less in years to come. However, most Final Salary pension schemes will index (also known as revalue) the deferred income in line with inflation so that it maintains its value over time.
If you have been a member of a Final Salary pension scheme for at least two years then you must be given the option to leave your benefits within the pension scheme. In some cases, you may also be offered this option if you have been a member of the Final Salary scheme for less than two years.
Although there have been mass closures of Final Salary pensions over the past few years, there are a few companies that still offer Final Salary pensions for new employees. An article from 2018 stated that “just 19 companies listed on the FTSE 100 stock exchange continued to provide access to DB pension schemes, based on ongoing DB service costs of more than 5% of the total payroll”.
The short answer is yes, if you’re still working for the company (and you are still an active member of the scheme) then your Final Salary pension will continue to increase year on year, with the amount you are paid at retirement often based on the number of years you have worked for the company, along with the pension benefits you are entitled to. The amount of the annual increase could be decided by the Board of Trustees, or it may be specified in the scheme rules.
Pension Works offer advice on Final Salary and other private pensions you may have. We carefully assess all your pensions and present you with a tailored recommendation. We provide a Defined Benefit review service and provide you with our recommendations. If your pension is in good health, then we will tell you. To find out more about how Pension Works can assist you with your Final Salary and other private pensions, simply call us free on 0808 164 2664 today.
Based in Knutsford, Cheshire. Our team of pension experts are authorised and regulated by the Financial Conduct Authority. We pride ourselves on our transparent advice that always puts you at the forefront. We only ever make recommendations that are in your best financial interests and our advice is delivered to the highest industry standard. To find out how Pension Works can help you with your pensions, call us free on 0808 164 2664.
This can be found on your payslip, P60 document or letters about tax, pensions or social benefits.
If you have (or have had) a pension that is described below then we can potentially carry-out a Pension HealthCheck.
Defined Contribution Pensions
These are ‘Pot of Money’ pensions where the benefits provided take into account the value of the fund at retirement. They can be personal pensions or Occupational Pensions. There are no guarantees as to what pension will be provided. This will be a reflection of contributions made and investment growth.
Defined Benefit Pensions
These offer the promise of a guaranteed pension at retirement which reflects the length of service with an employer. It will be based on either the Final Salary or Average Career Salary of the employee. Providing the company is still in existence, there is no investment risk for the pension receiver. This type of pension is becoming less frequent.
This is a generic term for pensions that are not workplace schemes.
Group Personal Pensions
Employer-sponsored schemes – each member has a personal pension plan, and their contract is with the pension provider. The employer’s role solely is to select the scheme provider, decide if there should be any restrictions on fund choices and take contributions from the employee’s pay and forward them with employer contributions to the pension provider.
A private pension arrangement or personal pension is taken out by a sole-trader or self-employed worker.
State Earnings Related Pension (formerly Graduated Pension and subsequently State 2nd Pension or S2P) was an additional element of State Pension for employees. The amount of pension was linked to the employee’s salary. SERPS was abolished in 2016 when the flat rate State Pension was introduced.
Private pensions are contracts between the pension member and an insurance company or another pension provider.
These are personal pensions where the member has a much wider choice of investments, including commercial property and single company shares.
Personal Pensions with a set of rules that impose amongst other things a maximum annual management charge (AMC), low minimum contribution levels (£20 per month) and an appropriate Default fund.
Private pension linked to an employer’s Defined Benefit Scheme but separate from the Scheme’s internal Additional Voluntary Contribution (AVC) arrangement – largely defunct since the rules were eased several years ago, allowing people to contribute to both personal and employment schemes as they wish.
Money Purchase Pensions
This is another name for Defined Contribution Pensions.
Unfortunately, we are unable to help clients who currently work for or have a pension from one of the following:
If you are unsure about the type of pension(s) you hold, please contact us on 0800 756 1288 or email email@example.com