Types of workplace pension

Types of workplace pension

Before you start to set up a workplace pension for auto enrolment, it’s useful to know how different types of pension work.

A workplace pension is an occupational pension that offers your employees retirement benefits. Depending on the type of workplace pension, the scheme will be governed and provide income in different ways, which we've outlined here.

Defined benefit

Defined benefit pension schemes are based around a member's salary and the length of time they've worked for their employer. A calculation based on these two elements is made under the rules of the pension scheme to work out the income that they’d receive at retirement.

Other factors that affect the income your employees are entitled to at retirement include:

  • The formula used to calculate the income at retirement; and
  • The circumstances under which the income is taken from the scheme

A final salary pension scheme is a type of defined benefit pension where the scheme members receive a defined benefit based on their final salary. Circumstances like an employee being an early leaver or taking their retirement benefit due to ill health would affect the available income.

The advantage of a defined benefit scheme is that members are protected from investment risk. There's a protection scheme in place to cover members’ benefits in the case of business failure, known as the Pension Protection Fund. However, this doesn't guarantee that the whole benefit accrued will be paid. In the case of members whose benefit wasn't in payment when the scheme entered the Pension Protection Fund, 90% of the benefit would be guaranteed up to a cap that changes each tax year.

Defined contribution

Defined contribution schemes are also sometimes known as money purchase schemes. They're based on the employer and the employee contributing an agreed percentage into a pension pot. The money that's paid in is then put into investments by your pension provider.

While your employees are still in work, the money in their pension pot is usually invested in a mix of stocks, shares and other investments, with the aim of the pot growing before they retire. Once they retire, the employee can then access their pension pot in a number of different ways.

Group Personal Pensions

Group Personal Pensions are a type of defined contribution pension run by a pension provider. Employees join the provider’s personal pension scheme, with the employer gathering member data and contributions and passing that information to the provider.

Scheme members of a Group Personal Pension build up a pension pot through employer and employee pension contributions. This pension pot is then invested into a mix of stocks, shares and other investments, with the aim of growing the pot over time. When they retire, the employee can access the pension pot in a number of different ways.

Master trust

A trust-based pension is traditionally a type of pension set up by an employer for their employees. However, master trust pensions are set up by pension providers with a trustee and board to govern the scheme. Employers who choose to set up a master trust scheme are given the benefit of having a governance function, but they're generally less complex and have far lower running costs than a traditional trust-based scheme.

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