What is a Defined Benefit Scheme?
Final salary Pensions and Career Average Pensions are both defined benefit schemes – this means that your retirement income will be based on previous earnings rather than how the fund performs. It is calculated using many factors including wage history, age and how long you’ve been employed.
What is a Defined Contribution scheme?
Personal Pensions and Money Purchase Schemes are both defined contribution schemes – this means the pension income is normally not guaranteed but will depend on the size of your pension fund at retirement. You are not stuck with any particular retirement options. Depending on the size and makeup of your pension pot, you may be able to create your very own blended pension solution.
You may be lucky enough to have a combination of final salary (defined benefit) and money purchase (defined contribution). This means that you could take the guaranteed income from your final salary pension to cover your ongoing regular monthly household expenses. Then you could use your money to purchase pension funds to provide you with luxury spending in retirement via the Modern Flexi Access Drawdown pension plans.
How can I get the best of both schemes?
If you only have money purchase pensions, you could still create a blended solution. You can do this by using part of your pension fund to provide a guaranteed lifetime income via an annuity. The remaining pension fund can then be used to provide the little luxuries that make retirement worthwhile.
Sometimes defined contribution schemes have guaranteed benefits associated with them. These may be section 32 buyout bonds, where benefits have been transferred from a defined benefit pension scheme to a personal pension arrangement. No further contributions are permitted, but they sometimes contain guaranteed benefits such as Guaranteed Minimum Pensions (GMP) or Guaranteed Annuity Rates (GAR), or Protected Tax-Free Cash (PTFC).
The GMP and GAR can be used in a blended solution to provide the guaranteed income part of the pension provision.
Lastly, some earlier personal pensions (commenced prior to 1990) contain Guaranteed Annuity Rates and will also form part of your blended solution.