What is a defined benefit scheme?

11 Sep 2018 By

Independent pensions expert Margaret de Valois explains.

A defined benefit pension is one of the oldest ways that a company can give a pension to its workers, with most large organisations offering these pensions until fairly recently. But what is it?

Put simply, it is a promise from your employer to pay you cash after a certain age. It doesn’t matter how much you save as the cash payments you will get depend on other things – including how much you earn and how long you worked for. If there isn’t enough money in the scheme when you decide to cash in, then that’s not your problem as companies have certain obligations to ensure your pension is paid! This is why defined benefit pensions are so highly regarded.

So in summary, with a defined benefit pension it is normally possible to work out in advance the amount of pension you might receive, which is very helpful for planning your future. You also get help from your employer to pay for your pension, something that is now common to all types of pension schemes linked to an employer.

All good so far. However, there are some downsides to these types of pensions. As we are living longer, they are getting more expensive to provide. The money has to come from somewhere and if your employer can’t pay all of the extra cost then it can fall to you, the member, to contribute more too. What is important to remember, however, is that even if you do have to pay slightly higher contributions, your pension may still be better value than other types of pension on the market.

For example, let’s look at the personal pension. This has no guarantee and often no payments from your employer. It is simply a tax efficient savings account which allows you to save your cash until a certain age and then draw it out gradually to ensure it lasts through your retirement.

The defined contribution workplace pension, which you may have seen advertised in the press, is similar and with this pension your employer does pay into the account as well. However, the levels of payments are quite often nowhere near as large as those that are paid into a defined benefit pension scheme.

If things get too expensive for both the employer and scheme member then sometimes a defined benefit scheme has to call it quits and stop building up any more pension for its members. In fact around 6 out of 7 defined benefit schemes have now done this and are now effectively closed, with their members joining new schemes to keep saving. In 2017 alone 186 of these schemes closed their doors to further pension building up [1].

Do you know what type of pension you have? If not, it would definitely be worth finding out.

For more info please ask your employer or visit https://www.pensionsadvisoryservice.org.uk/

  1. “The DB landscape; Defined benefit pensions 2017” published by the Pensions Regulator.

All views expressed are those of the author and not Universities UK.