Part 4 : Pensions Jargon Explained
- A Day
6 April 2006 – the day that government pension simplification rules came into effect.
An actuary is an expert on pension scheme assets and liabilities, life expectancy and probabilities for insurance purposes. An actuary works out whether enough money is being paid into a pension scheme to pay the pensions when they are due.
An annuity is a regular income for the rest of an individual's life. An individual buys an annuity with the fund they have built up in a money purchase pension fund. There are different types of annuity to suit the individual's needs and circumstances.
A deferred annuity is one which will start to pay out some time in the future.
- Annuity rate
The annuity rate is the factor used to convert the pension fund into a pension.
- Approved pension arrangements
Approved pension arrangements are any occupational or personal pension schemes approved by the HM Revenue and Customs tax purposes, all retirement annuity contracts plus stakeholder pensions. These are the most common pension arrangements but the official receiver may encounter approved pension arrangements under other regulations made by the Secretary of State.
- AVCs – Additional Voluntary Contributions
A pension top-up for an occupational pension. The individual pays contributions into a scheme run by their employer to boost their main pension.
- Cash equivalent
The amount of money a pension scheme member can transfer to another pension scheme.
- Contracted out
This term is used to describe a scheme where members contract out of the State Second Pension.
- Declaration of trust
The document which creates the pension trust deed.
- Death benefit
This may be paid to a member's dependants if the member dies. It may be a pension or a one-off payment. It could be death after retirement benefit or death in service benefit.
- Deed of appointment
A legal document appointing a new pension scheme trustee.
- Defined benefit scheme
This is where the rules of the scheme decide how much pension the member will get. There are different ways of working out the size of the pension depending in the system the scheme uses. The most common type of defined benefit scheme is a final salary scheme.
- Defined contribution scheme
This is where the size of a member's pension is not decided by the rules of the scheme but is affected by how much money is put into the pension fund for the member, how much the pension fund has grown and what annuity rate is available when the member retires. This system is also called a money purchase scheme.
- Final Salary Scheme
This is the most common type of defined benefit scheme. It means that the pension paid to the member is based on how much they are earning when they retire. This amount could be an average over their last few years of work.
- Forfeiture Clause
A forfeiture clause is a clause in the rules of an occupational pension scheme which may forfeit all the member’s rights to receive benefits from the pension scheme upon certain events occurring.
- FSAVCs – Free-Standing Additional Voluntary Contributions
A pension top-up policy, also for an occupational pension, but separate from an employer’s pension scheme and normally run by an insurance firm.
- Group Personal Pension
This is a system where several employees at one company join a personal pension scheme with the same pension firm. Each member has a separate scheme with the pension firm but contributions are collected together. The member may get better terms with a group personal pension than with a normal personal pension scheme. The employer may be more likely to pay contributions because there will be less paperwork than with each employee dealing with a separate provider.
- Hybrid Scheme
This is an occupational pension scheme where the pension benefits can be worked out in two ways. The way that gives the higher benefits will be used. The name is also used for an occupational pension scheme that pays both final salary and money purchase benefits.
- Income withdrawal
A contract with an insurance company where an individual takes an income direct from their pension fund, while leaving most of it invested in the stock market or other asset-backed investments. Usually, the hope is that the returns on the invested fund will make up for all or most of the charges and any income withdrawn and be enough to sustain an individual's income. However, the fund value could fall as well as rise and any income taken, plus the charges, will reduce the value of the fund if they are more than the investment growth.
- Lifetime Allowance (LTA)
The LTA is part of the new tax rules on pensions introduced on 6 April 2006. (see Technical Manual, Chapter 61, paragraph 61.19) The LTA is not a limit on the value of an individual's pension but is a limit on the amount of pension contributions attracting tax relief. The LTA is reviewed annually. (For the tax year 2006-7 it is £1.5 million).
- Member - nominated trustee
This is a trustee chosen by the members of an occupational pension scheme.
- Member of the pension scheme
This usually refers to an individual who has joined a pension scheme. A deferred member is an individual who has left the scheme but will get benefits when they retire. These are called preserved benefits.
This is a term used to describe the problems of firms selling pensions to individuals who would have been better off staying with the scheme they were already in. For example, an individual may have left an occupational pension scheme to join a personal pension scheme but lost out because their employer no longer paid money into their pension fund.
- Money purchase pension
Some occupational pensions and all personal, group personal, stakeholder, FSAVCs and some AVCs are money purchase pensions. The individual's contributions are invested in, for example, the stock market and the size of their fund depends on the contributions made and how well their investments do. The individual buys an annuity with their pension fund to provide them with retirement income.
- Occupational pension
An occupational pension scheme is a pension scheme generated by a company or organization for the benefit of its employees. In contributory schemes both the employer and the employee contribute to a fund which grows, free of tax, during the savings period. In non-contributory schemes, only the employer contributes. Occupational pensions are only available through employers and are run by pension scheme trustees. There are two types – salary-related (defined benefit) and money purchase (defined contribution). With a defined benefit plan, the amount paid depends on the number of years service and the final salary of the employee. With a defined contribution plan, the amount paid is calculated by reference to the contributions put in.
- Open market option
An individual does not have to buy an annuity from their pension provider. They can shop around to compare rates and arrangements offered by other insurance companies and buy an annuity from another provider if they find a better deal – this is called the open-market option.
- Pension benefits
Pension benefits are everything the member receives after retiring because they were part of the scheme. It usually means the money paid to the member as their pension. It could also include death benefits.
- Personal pension
A personal pension plan is an investment policy designed to offer a lump sum in retirement. They are available to any UK resident under 75 years old and can be bought from insurance companies, high street banks, investment organizations and some retailers.
Personal pension plans are money purchase arrangements. This means that a member contributes to the plan, the money is invested and a fund is built up. The amount of pension payable depends on the amount paid in, how the investment funds perform and the annuity rate.
- Principal employer
This is a name sometimes used when a particular employer has special rights or responsibilities, such as appointing trustees. For example, if several employers run a scheme together, the one who set it up might be the principal employer.
- Protected rights
Pension benefits payable at retirement age which are derived from funds built from minimum contributions paid into an appropriate personal pension plan by the Government. These benefits are a substitute for part of State Second pension.
- Protected rights annuity
The part of an individual's pension fund which was used to contract out of the additional State Pensions (State Second Pension - formerly SERPS) must buy a protected rights annuity.
- Retirement annuity contract (RAC)
Prior to 30 June 1988, individuals not in pensionable employment or those self employed were able to qualify for tax relief for contributions made to a pension scheme known as a retirement annuity contract. Although RACs were replaced by personal pension plans from 1 July 1988, those already in force may continue to operate.
- Salary-related pension scheme (‘final salary’ or ‘defined benefit’)
A type of occupational pension. The amount of pension an individual gets is worked out on their salary at or near retirement, or when they left employment, and their pensionable service.
- Stakeholder pension
A type of personal pension that has to meet certain standards set by government. An individual can take one out themselves or it may be available through their employer, but is not classified as occupational.
- State Pension
The Pension Service (part of the Department for Work and Pensions) will pay an individual's basic State Pension based on their National Insurance record. An individual may also qualify for the additional State Second Pension based on their earnings and National Insurance contributions.
State pension age is currently payable from age 65 for men and from age 60 for women. However, there is a transitional period during which the retirement age for women will gradually be changed to 65.
- State Second Pension
The State Second Pension is an additional State Pension on top of the basic State Pension paid by The Pension Service. This was called SERPS but since 2002 it has been called the State Second Pension. Self-employed people cannot build up a State Second Pension.
- Tax-free lump sum
The HM Revenue and Customs limits how much an individual can take as a tax-free lump sum from their personal or stakeholder pension fund – currently a quarter (25%) of their fund. For occupational pensions it depends on the rules of the scheme.
- Transfer Value
This is the amount that a pension scheme pays out when a member leaves. This will either go into a new scheme that the member has joined, or will be used to purchase a buy-out policy for the member.
- Trust deed
A legal document used to set up, change or control a trust.
When a pension scheme's assets are less than its liabilities.