Will You Be A Private Pension Pauper?

A new survey has revealed that people's income will drop by more than half when they retire. Those without final salary pension schemes will suffer even more.

Pension stories rarely contain much in the way of good news and I'm afraid this one won't be that much different. Last week Fidelity released its third annual Retirement Index highlighting how people's income will change when they retire. On average, we can expect a 53% fall in our income, even when state pensions and other benefits are taken into account.

Whichever way you look at it, 53% is a massive drop. Taking the median weekly income at the moment of £457 it represents a drop to just £215, which is equivalent to a full working week earning the minimum wage. If you prefer to think in terms of annual income, it's the equivalent of a drop from £24,000 to a little over £11,000.

The pension crisis isn't just a UK phenomenon of course. Fidelity has conducted similar surveys in other major countries and found a similar pattern. Japanese pensioners can expect a comparable drop to the UK of 53% while the US and Germany will `only' see a reduction of around 43%.

Final salary schemes fare better

The anger at the decline of final salary or defined benefit schemes has been well documented and a breakdown of the figures in this survey provides another illustration of why. Those lucky enough to be in such schemes will only see their income drop by an average of 20% when they retire. Currently, it is estimated there are 6 million people who are contributing to open defined benefit schemes but only around 1 million of these are in the private sector.

Those in money purchase or defined contribution schemes will see their income fall by an astonishing 63%. Fidelity has coined the term `private pension paupers' to highlight the difference between the two types of pension scheme.

As the survey points out, there is nothing intrinsically wrong with defined contribution schemes but the amounts put into them are usually much lower than with defined benefit schemes. In fact, employees and employers put a combined 19% of annual salaries in defined benefit schemes but just 9% into defined contribution schemes. Although we, as individuals, tend to put slightly less into defined contribution schemes, the main difference comes from a reduction in employer contributions.

Part of the problem seems to be that people overestimate their retirement income, especially when it comes to defined contribution schemes. In previous surveys of this type, Fidelity asked people what they thought their income would be and they then compared this to their own calculations. They found that typically people overestimate their retirement income by some 40%. Presumably if we realised how little our retirement income was going to be we'd be persuaded to put more aside.

Three steps to assess your pension income

Obviously none of us wants to be a private pension pauper, or indeed a pauper of any kind. So here's a quick run-through of how to assess your pension prospects. The earlier you take action, the less you'll need to invest.

Start with the state pension

The best place to start is to assess what you'll get from the government in terms of basic state pension and state second pension. This you can do by getting a state pension forecast. Unfortunately, unless you're retiring in the next couple of years, you won't be able to get a forecast until later this year due to IT system changes. So, for the time being, you could assume £90 per week for the state pension.

Get your pension CV together

One of my fellow writers, the shy and retiring Mr D'Arcy, suggests collecting together your existing pension arrangements in a pension CV. This will help you work out what you've got in any personal or company pension schemes you already have.

Use a pension calculator

Once you've got this information together you can then use a pension calculator, like this one put together by the FSA and ABI. This will help you work out what level of pension you're likely to receive and what effect increasing the amount you put into your pension has. Add on your state pensions to see what your total income will be. I hope it's not too scary!

Find out more in our retirement and pensions area.

More: Pensions For Beginners: The Complete Guide | Good News About Your Pension