Pensions Fall Out Of Favour

Saving for retirement is going out of fashion, even though we're living longer. Will this create a generation of poverty-stricken pensioners?

This week, the Office for National Statistics (ONS) released its latest report into pension trends, which made for grim reading.

Of the 35.4 million people of working age in the UK, just under two-fifths (39%) were members of an occupational (employer-sponsored) or personal pension scheme in 2004/05. For 2003/04, the proportion was 40%, so membership of pension schemes continues to decline. As you'd expect, a higher proportion of men than women were members of pension schemes: 44% for men, versus 37% for women.

In particular, membership of final-salary schemes (also known as defined-benefit schemes) seems to be in terminal decline. Between 2004 and 2005, membership of these generous company pensions slid by a tenth, from 39% to 35%. In 1997, the figure was 46%, and this decline in final-salary schemes is likely to continue indefinitely. On the other hand, membership of money-purchase schemes (also known as defined-contribution schemes) is rising: up from 10% in 1997 to 15% in 2005.

The replacement of company-backed final-salary pensions with inferior money-purchase schemes is bad news for Britain's workforce. This is because the guaranteed benefits provided by final-salary schemes are hard to beat, even by the most generous contributions to money-purchase schemes.

With a final-salary scheme, your retirement income depends on your salary and the number of years that you've been a member. With a defined-contribution scheme, the value of your pension pot depends on how much has been paid into it and the investment returns it has built up. When you retire, your pot buys you with an income, normally an annuity, which is an income from an insurance company that is paid until you die.

Alas, final-salary schemes are on the way out precisely because they are so expensive to run. Companies can save a tidy sum by closing existing final-salary schemes and replacing them with money-purchase plans. Hence, most final-salary schemes are now closed to new members, and some firms are even closing down schemes for existing staff, as I reported in Employers Pull The Plug On Pensions.

What's more, ONS data show that we're lasting longer before calling time on our working lives. In 2005, the average age at which a typical man withdrew from the labour force was 64.2 years, which is the highest since records began in 1984. For women, the average withdrawal age was 61.8 years -- the second-highest figure on record.

It's also worth noting that a sizeable minority of workers continue working past their normal state retirement age. Almost a tenth (9.6%) of men continues to work past 65, versus the one in nine women (11.1%) who works past 60. Although some do so because they enjoy the challenges and stimulation that paid work provides, others are forced to do so purely for financial reasons.

To be frank, I view these trends with nothing short of horror. Seriously, people, what's going on? There's every indication that our generation will be the longest-lived in all history, yet most workers are too short-sighted to make plans for a comfortable retirement! Have we all gone crazy or something?

On the other hand, events over the past decade have combined to make pensions appear far less attractive than in the past. For example:

• The stock-market crash of 2000-03 discouraged millions of people from investing in shares (and, therefore, pension funds, which have large share-holdings);
  
  
• Investment returns have dived over the past decade, reducing the returns to owners of personal pensions, and making company pensions more expensive to manage;
  
  
• Annuity rates have plunged in line with long-term interest rates, more than halving the retirement income paid by personal pensions (see Pension Incomes Down 72%); and
  
  
• In addition, increased life expectancy has reduced the annuity income paid by insurance companies.

Despite the falling appeal of pensions, it still makes sense to invest for your retirement somehow. Of course, you don't have to go down the traditional route of contributing to a pension as such; you can invest inside tax-free ISAs, in buy-to-let property or even by buying shares directly. Just don't ignore the problem, because it will never go away -- unless you die before your time, that is!

Lastly, for more information on boosting your retirement income, read Ten Ways To Pump Up Your Pension and How To Avoid Pension Poverty.

More: Visit the Fool's Retirement and Pensions centre!