Adding to a defined benefit pension (Civil Service)

[annakorp]

Most people I know have employer DC pensions, so I've found it surprisingly hard to get advice on my DB pension. It's the alpha scheme from Civil Service Pensions, which I know a few other people on here are members of too. I've been lucky enough to have saved money from lockdown and want to throw some in that direction but I'm bewildered by all the different options and I’ve gone as far as I can in understanding the documentation on offer. I am a single woman in my mid 20s with no plans to have children, but I think the options are broadly similar for other people. As I see it, I have six main options.

Three convenient options via payroll deductions to Civil Service Pensions:

A) Buy a larger monthly pension through 'added pension',

B) Buy a earlier access to the pension through 'Early Pension Age',

C) Buy into a Legal & General DC scheme through 'Additional Voluntary Contributions'

And three off my own bat:

D) Buy a private pension,

E) Invest in trackers within a SIPP,

F) Invest in trackers within a S&S ISA

These are my half-baked thoughts on those options. (Any one of which might be a massive misunderstanding on my part!)

1. The Alpha pension is already very generous and ought to more than provide for my basic needs in old age. I can therefore afford greater risk with any additional long term investments I make.
2. One big risk of Alpha is its link to the state pension age. I fear that this age could rise significantly before I get there.
3. A and B are roughly actuarially equivalent to each other, with B slightly preferable to me because it's jam today over jam tomorrow. The rates on offer aren't bad, but nor are they anything special, especially for someone like me who is a long way off retiring.
4. More importantly, A and B both share the link to the state pension age mentioned above. Since I want to limit my further exposure to this risk, and hedge against it if possible, these are not good options for me.
5. C and D rely on me trusting a pension manager to stock-pick for me. I don't want this and would rather take a passive approach.
6. C, D and E would all be more attractive if I paid higher rate tax and enjoyed the 40% relief. As a basic rate tax payer the 20% tax relief is no great advantage because…
7. …with option F, I can pay my post-tax income into an ISA and then withdraw it tax free in retirement (as opposed to pension income which is subject to tax). This comes with the advantage of being able to access the money sooner should I, for example, decide to buy a house.

Based on these reasons, I think that F is the right option for me now but that if I got a pay rise taking me into a higher tax bracket then I would switch to E.

I realise that all of this comes down to personal preferences, but I'd be really grateful if anyone could point out anything I've said in points 1 to 7 that doesn't make sense. And were there any factors that influenced you that I've not considered? Thank you!

Edit: Thank you everyone for pointing me towards the LISA. I had overlooked it and it's a far better option than I'd realised. I think I've always seen advice against it because it's worse than salary sacrifice or higher rate tax relief, but in the absence of those two options it's actually quite attractive.

 

[heyilovegod2254]

@annakorp My opinion is to go for F (S&S ISA) or perhaps G (LISA). It's the least optimal in terms of £-in-£-out, but it's by far the most flexible - you can access the money early for free (S&S ISA) or a small cost (~6%, LISA, in exchange for +20% if you don't take it early).

I'm not entirely convinced by additional pension/AVCs/early retirement buyouts on most DB schemes, because they tend to be about twice as expensive-per-£-of-benefit as your "basic" contributions are - and that wipes out the real advantage of the DB scheme. Plus you're buying even further into the one big disadvantage of DB schemes: the retirement date.

The way I figure it, your DB scheme ensures that you're going to have a comfortable retirement, and you can probably take a few years worth of early retirement at a sensible reduction of benefits (something like 4%/year on most schemes)... I'm of the opinion that that's "enough" pension, and that you're likely to want more flexibility from any additional pension saving.

TL;DR: The one disadvantage of a DB pension is lack of flexibility. The one really big advantage is that you already have very good benefits. So I'm of the opinion that any extre savings should probably be as flexible as possible

That said, if you get a big enough pay rise that you can get the early retirement buyout while still feeling like you've had a pay rise, then I'm not entirely against it in principle

 

[annakorp]

@heyilovegod2254 !thanks, this is a really clear explanation of some of the same thoughts I was vaguely having.

I'm interested in your 'twice as expensive' estimate, as this is something I was really struggling to quantify myself. Example: the calculator for 'added pension' effectively told me that, given my current age, to buy £1 of extra income every year in retirement I need to pay £7 of my (pre-tax) income this year. How do you weigh that against other options?

(As it happens, a back-of-the-envelope suggests I would need to live to well over 100 for that to be a better deal than an S&S investment earning 4% in the long term.)

 

[heyilovegod2254]

@annakorp I don't have the calculations now, but that was roughly the figure I came up with when calculating my own NHS Defined Benefit scheme (which is broadly similar to the Civil Service scheme, as far as I understand it).

Essentially I looked at a 40 year career and 30 years of retirement, which gives me ~80% of my salary for 30 years (24x my salary) in exchange for 9.3% of my salary for 40 years (3.7x my salary). So roughly speaking I get £6 for every £1 I put in

Then I looked at how much it would cost me to buy 3 years (another 2.4x my salary), and it worked out as roughly twice as expensive. Obviously that's a simplified example, since it's not really taking opportunity cost into account, but even applying a generous fudge factor, that's not a favourable exchange. I found the same when looking at Additional Voluntary Contributions: you pay roughly twice as much in for every £1 you get in retirement.

I then compared to typical investment assumptions and essentially I found that I would get comparable results investing in the stock market instead of buying the early pension, while also having more flexibility. Of course, there is also some tradeoff of risk - the early retirement is guaranteed (but only 3 years before my state pension age), whereas the stock market can under-perform. At the same time, the stock market can over-perform too, and my money is available at any age

I'll note that I calculated this based on being about 30 years old, so the numbers may change with age - but the AVC/ERRBO contribution required goes up as you get closer to retirement, so what you would lose in compound interest you also lose in higher contributions

 

[annakorp]

@heyilovegod2254 !thanks, this is just the rubric I needed. Doing similar calculations, I estimate the DB scheme is returning me ~6x if I live till 85 and ~11x if I make it to 100. I see now why people say it's generous!

 

[heyilovegod2254]

@annakorp

I see now why people say it's generous!

And that's before you consider your potential death in service benefits

• A lump sum of up to 2x your salary (reduced if the ongoing pension is paid)
• 3-9 months of your full pay if you have children
• An ongoing pension paying your widow/widower the equivalent of what your pension would have been (enhanced pension) at retirement, had you worked until your retirement date
• A children's pension of 1/4 of that enhanced pension per child until they turn 18 or leave university, whichever is last

And your potential retirement on ill health benefits, which in some circumstances effectively means you get the enhanced pension mentioned above, but you get it immediately. I'm not sure exactly how the Civil Service pension works on this one though

Public sector pensions are nowhere near as good as they used to be (final salary, and tied to a specific age of 60/65 rather than your state pension age, not subject to reduction due to salary sacrifice), but they still beat the pants off almost any private sector pension... although I always hasten to point out here that we also generally get paid much less in return for that security

 

[yeshuas_my_freedom]

@heyilovegod2254 !thanks for this, I'm basically the same age, same pension and rate so it's useful for me, I concluded the same as you so have started a S&S LISA this week.

 

[heyilovegod2254]

@yeshuas_my_freedom NHS represent (I assume, based on the weird 9.3% contribution rate)

 

[yeshuas_my_freedom]

@heyilovegod2254 Indeed, I'm a a promotion and a few years away, but I'm tempted to jump ship to the Civil Service, salary sacrifice or opt out once I get to the 12.5% band, that's a lot of cash.

 

[heyilovegod2254]

@yeshuas_my_freedom For the love of god don't opt out without a LOT of consideration

Civil Service might be a good bet if that's an option for you, but other than a handful of other DB schemes like that, there's little you're going to find better

The 12.5% band is a little painful, but you're still not going to beat it with a SIPP. Also, you probably won't be able to salary sacrifice instead while in the NHS, so you'd have to go elsewhere entirely

There are VERY few situations other than the Civil Service/USS/LGPS (which are all similar public sector pensions) where you will beat the NHS pension

 

[yeshuas_my_freedom]

@heyilovegod2254 Yeah I won't do it without a lot of planning. Like I said I'm a promotion and probably 5 years away from that pension band anyway. That pretty much maxes out where my career in the nhs can go anyway so long term I'd need to move on, again years away.

I know people who get a lease car to get under the pension bands along with childcare vouchers, cycle to work etc. so there are options.

 

[monroe27]

@heyilovegod2254 This is good advice. I'd only add that DB pensions in general are less attractive for young people. You oay the same as someone older but you're giving up more years of growth you'd get from risk-bearing assets.

So in your position, building up a great guaranteed pension already it makes the S&S ISA option even more attractive.

I'm in the fortunate but also backwards position myself of having a great DB pension already accrued half way through my career, but limited growth assets.

I'm hoping my DB doesn't lose too much value over the next 20 years!

 

[ncarr1296]

@annakorp I don't think it is right to say that B ( and A sort of, but there are differences in rules between A and B that mean I wouldn't say they are exactly =) is not a hedge against retirement age, as it brings it forward by up to 3 years. This is a good start. You can still take an early retirement reduction on top of that, but it means the reduction will be less.

It might be possible to do a bit of both extra savings in the pension and in cash.

You don't mention a LISA, have you looked at that too?

 

[annakorp]

@ncarr1296 I take your point, but I guess my worry is that the state pension might end up reformed into something completely unrecognisable by the 2060s. I think that's unlikely, but I don't like the unknowability of it, so I want some eggs in a completely different basket.

Definitely looking into a LISA now. !thanks !

[Edit: I wrote the wrong decade]

 

[findsapientia]

@annakorp I too chose Option F just recently.

I'm happy Alpha will be sufficient if I retire at SPA. Even if I retire early, I feel I can retire a good few years early before the reductions are enough that things would be tight.

A S&S ISA gives me lots of options between now and retirement. I have ruled out a LISA as that reduces my flexibility before 60 as I already own a house.

 

[annakorp]

@findsapientia I know what you mean about flexibility. In my case I don't own a house but I am not sure that I want to. (London is expensive; a house is a very un-diverse investment; I might not always live in the UK.) But were you not tempted by the 25% govt contribution? I'm thinking I might do a bit of both: some in S&S ISA and some in S&S LISA.

 

[findsapientia]

@annakorp https://www.moneysavingexpert.com/savings/lifetime-isas/

This article, plus a browse of UKPF convinced me otherwise. If I am happy locking money away until post 60 then I believe your Options A and B are the best bet. Actually I believe Added Pension to be best.

This is probably a strange thing to say on UKPF, but I am not looking to squeeze every possible penny out of my salary and investments! If I stay eligible for Alpha (which is my current plan) then my pension, plus state pension, plus partners various entitlements will see us with more income in retirement than we currently have.

As such, I'm looking for ways to expand my options for later career years. Partial retirement, reduced hours, live entirely off S&S ISA before drawing an earlier pension. I feel that a S&S ISA gives me that flexibility, where a LISA does not prior to 60.

 

[onefootinheavenoneinhell]

@annakorp There was a fairly in-depth discussion relating to pensions on r/TheCivilService not too long ago that may help, as may that sub in general:

https://www.reddit.com/r/TheCivilService/comments/l7qvl4

This may also help:

https://www.civilservicepensionscheme.org.uk/members/pension-power/

I wouldn't be so hasty to rule out the AVC scheme. Legal & General schemes tend to have very low charges and they also offer lots of tracker funds so you could very easily take a passive approach with them. There may also be the bonus that you can use your AVC pot to fund your main scheme tax-free cash entitlement rather than having to reduce your scheme pension to pay this.

If you were leaning towards an ISA then a LISA seems like the better option in your position.

 

[annakorp]

@onefootinheavenoneinhell Thanks for that other thread. I'm definitely not tempted by Partnership, so it's good to see the comparison and have my instinct confirmed

 

[resjudicata]

@annakorp I think you've nailed most of the pertinent points.

Only other thing I would consider is claiming the pension early at a discount if you think it will exceed your income requirements post the Normal Pension Age.

Did a long response about this yesterday you might find relevant: Lisa or sipp/ or additional civil service pension : UKPersonalFinance (reddit.com)

Perhaps assume your access age will be 70 to be conservative.

Have you considered a LISA? It's a compelling pension option if you're basic rate.

Then perhaps try to work out when pensions/LISA will cover your post 57/8 expense needs and then go for ISA for earlier retirement.

Though generally I'd try and decide in advance what money is for retirement and what is for a house purchase. This will also affect what your asset allocation should be (e.g. under 5 years stick to cash). So if you think you want to buy in 10 years you would want a different approach than retiring in 30 years. Though an ISA could be the vehicle for both.