My 25 year old daughter joined the police two years ago and automatically entered the police pension system.
From her annual salary of £28,000, she contributes 12.5% or £300 per month towards her pension.
This seems like a very large amount compared to what you would normally pay into the company’s retirement plan (5 percent?) and it struggles to keep up with rent and cost of living.
Savings dilemma: My cop daughter pays large sums she can’t afford into her pension – is it worth it?
I believe this is no longer a traditional salary based pension scheme, where you will receive a pension based on your last year’s wages, but you will receive a pension based on the wages paid each year. Not so good.
So, should she continue to pay under this scheme or will she be better off:
1) Pay money instead to Lifetime Isa to save for a house and then/or
2) Pay into a personal pension plan?
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Steve Webb says: There is no doubt that the 12.5% rate of contribution to the pension system is significantly more than many people contribute, and it is understandable that your daughter may be wondering if she can afford it or not.
However, before you abandon this pension scheme, it is worth understanding how valuable it is.
The first thing to say is that although your daughter pays about 12.5% of her salary, the police, as her employer, pay about twice as much.
This is because the pension she receives is very expensive and your daughter only covers about a third of the full value of the pension.
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If your daughter opted out and switched to (say) a personal pension, she would throw away all those employer contributions and would have to save up a fortune to match her police pension from her personal pension.
One of the valuable things about a pension is that it still provides a guaranteed retirement benefit that is tied to wages.
You’re right that now it’s calculated based on career average salary, not final salary, but militia officers are now charging a pension at a higher percentage than under the old scheme.
As a result, new arrangements may be more generous, especially for those who do not end their careers in a very high position.
You can read more about the reason for these changes is here.
It would be fair to say that the provision of these guaranteed wage-linked pensions has become so expensive that most employers in the private sector have abandoned their offer, so they should not be discarded lightly.
The second key point is that the police pension scheme (for new hires) has a retirement age of 60, which is much lower than many other schemes.
Therefore, your daughter can receive a full pension under this scheme for at least eight years before she becomes eligible for a state pension (age 68 under current law).
While most people can expect to have to work into their 60s and 60s before they can afford to retire, if your daughter stays in this scheme for the rest of her career, she will have much more opportunities to retire earlier than most people.
The third benefit of paying a pension is that you get tax breaks on your contributions.
While your daughter may have around £300 a month in pension contributions on her payroll, this only costs her £240 a month (with 20 percent income tax) because pension contributions are deducted from her salary until how her tax will be calculated. .
Active membership in a pension scheme may also bring other benefits, such as life insurance, that would be lost if your daughter opted out.
There have been stories recently of NHS workers who opted out of the NHS pension scheme on cost grounds and then tragically died, only to have their family discover that there was no death benefit to support them.
Should I open Lifetime Isa?
Read the It’s Money guide on how they work and what they offer young investors hoping to move up the corporate ladder.
You can find a summary of all benefits related to the police pension scheme here.
As for being able to save up for a lifetime Isa to save up a deposit on a house, I can see why it might look attractive, especially if your daughter is paying a lot of rent.
However, based on the numbers you’ve provided, it looks like she’ll only save around £240/month by dropping the subscription, or perhaps just under £3,000/year.
Given a typical first-buyer deposit, at this rate, it could take many years to build up a secure deposit, all the while forgoing valuable retirement benefits, including a large employer contribution.
I understand the pressure on young people and the difficulty of saving enough money for a deposit, especially as bills grow.
I know that some, for example, have gone back to the family for a while to save on rent and save up the deposit faster, but I don’t know if this is right for you or your daughter.
All I would like to say is that if she was going to give up her police pension, she should ideally do so for as short a period as possible, as it remains an exceptionally valuable asset in the workplace.
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Steve left the Department of Work and Pensions after the May 2015 elections. He is currently a partner in the actuarial and consulting firm Lane Clark & Peacock.
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