My daughter is paying big sums she can’t afford into the police pension: Is that worth it or are there better savings options? Steve Webb replies
My 25-year-old daughter joined the police two years ago and automatically enrolled in the police pension scheme.
From her £28,000 a year salary, she is paying 12.5 per cent or £300 per month into her pension.
This seems like a very large amount compared to what you would normally pay into a company pension scheme (5 per cent?), and she is struggling to keep up with rent and the cost of living.
Savings dilemma: My policewoman daughter is paying big sums she can’t afford into her pension – is it worth it?
I believe this is no longer a traditional final salary pension scheme where you would get a pension based on your final year salary, rather you earn a pension based on the salary paid each year. Not nearly as good.
So, should she carry on paying into this scheme or would she be better off:
1) Paying the money instead into a Lifetime Isa to save towards a home, and then/or
2) Paying into a personal pension plan?
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Steve Webb replies: There is no doubt that a contribution rate of 12.5 per cent into a pension scheme is significantly more than many people are contributing, and it is understandable that your daughter may be thinking about whether she can afford this or not.
However, before opting out of this pension arrangement it’s worth understanding quite how valuable it is.
The first thing to say is that although your daughter is paying in around 12.5 per cent of her salary, the police as her employer are paying in roughly double this amount.
This is because the pension she is getting is very valuable and your daughter is only meeting about a third of the full cost of the pension.
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If your daughter were to opt out and move (say) to a personal pension she would be throwing away all of this employer contribution, and would have to save a fortune to match her police pension via a personal pension.
One of the things that is valuable about the pension is that it still provides a guaranteed payment at retirement which is linked to salary.
You are correct to say that this is now worked out based on average salary over the career rather than final salary, but police officers now build up pension at a higher percentage rate than under the old scheme.
As a result, the new arrangements can be more generous, especially for those who don’t finish their career in a very senior position.
You can read more about the reason for these changes here.
It would be fair to say that providing these salary-related, guaranteed pensions has become so expensive that most employers in the private sector have given up offering them, so they should not be given up lightly.
A second key point is that the police pension scheme (for new joiners) has a retirement age of 60 which is much lower than many other schemes.
Your daughter can therefore get a full pension from this scheme at least eight years before she becomes entitled to a state pension (age 68 based on current legislation).
Whereas most people can expect to have to work into their mid to late 60s before they can afford to retire, if your daughter stays in this scheme throughout her career she will have far more options over retiring earlier than most people.
A third advantage of paying into a pension is that you get tax relief on your contributions.
Although your daughter may be seeing around £300 per month in pension contributions on her payslip, this is only costing her £240 per month (assuming income tax of 20 per cent) because the pension contributions come off her wages before her tax is worked out.
Active membership of a pension scheme can also bring other benefits such as life insurance which 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 for their family to discover that there was no death benefit to support them.
You can find a summary of all the benefits associated with the police pension scheme here.
In terms of the option of saving into a Lifetime Isa in order to build up a deposit on a house, I can see why this might look attractive, especially if your daughter is paying a lot in rent.
However, from the figures that you have supplied, it sounds as though she would only save around £240 per month by opting out, or perhaps a little under £3,000 per year.
Given the typical size of first time buyer deposits it could take many years at that rate to build up a credible deposit, and in all that time she would be foregoing valuable pension benefits including a large employer contribution.
I do appreciate the pressure on young people and the difficulties of saving enough for a deposit, especially with rising bills.
I know that some have, for example, moved back in with family for a period to save on rent and build a deposit more quickly, but I don’t know if that is something that would work for you or your daughter.
All I would say is that if she were to consider giving up her police pension she should ideally do so for as short a period as possible, as it remains an exceptionally valuable workplace benefit.