There is a mis-match between people's retirement expectations and what they are actually contributing to their pensions, writes Laura Slattery
One in three pension scheme members are at risk of receiving a lower-than-expected income for their retirement, according to a new report.
Members of defined contribution pension schemes - where the eventual pension is determined by the investment performance of contributions made by the member and/or their employer - are not putting enough money into their schemes to meet their retirement needs, the Irish Association of Pension Funds (IAPF) has warned.
In a new report on the adequacy of defined contribution pensions, the IAPF says it is concerned that many employees hold unrealistic pension expectations.
It warns that there is a mis-match between people's expectations of what they will receive in retirement income and what they are actually contributing to their pension schemes.
If members do not seek to bridge this "contribution gap" at an early stage in their working lives, they may have to extend their working lives past the standard retirement age of 65 or simply put up with a low retirement income.
The report focuses on defined contribution or "money purchase" pension schemes. These do not guarantee a pension based on final salary and shift the investment risk from the employer to the employee.
One-third of people who are members of occupational pension schemes are members of these schemes, according to the Pensions Board.
People often aim for a pension that will give them 1/60th of their salary for each year of service, as employers typically guarantee to do under defined benefit schemes. So 40 years' service will give members a pension of two-thirds of their salary.
Even with the help of the State pension, someone on the average industrial wage of €25,867 who joins a scheme at the age of 40 would need to have a contribution rate of 14.8 per cent of salary from the outset if they want to achieve a 25/60ths pension by the time they are 65.
This would give them a pension equivalent to less than €11,000, due to their late start.
Someone on a salary of €50,000, meanwhile, would need a contribution rate of 21.2 per cent if they joined a scheme at the age of 40 to achieve the 25/60ths pension, equivalent to about €21,000.
However, a 2002 IAPF benefits survey shows that the average contribution rate to defined contribution schemes, taking into account both employee and employer contributions, is just over 10 per cent of employees' salary.
The chart shows the extra contributions needed to bridge the gap between this average contribution and the rate needed to require a target pension of 1/60th of salary for each year of service, this time excluding additional State pension benefits.
Someone who joins a scheme aged 40 should have a contribution rate of 28 per cent of their salary - nearly three times higher than average contribution rates.
Mr Joe Byrne, vice-chairman of the IAPF and group actuary for Coyle Hamilton, says employees need either to make additional voluntary contributions (AVCs) or try to get their employer to make higher contributions to schemes in order to make up the shortfall.
"The way the state of the economy is at the moment, such contributions are likely to have to come from their own pockets," Mr Byrne says.
However, the IAPF 2002 benefits survey recorded an increase in the number of schemes offering "matching" contributions from employers.
These may not be fully exploited by employees with rent, mortgages, childcare and education costs to worry about before they begin to think about maximising their pension contributions.
"You might put in 3 per cent and the employer puts in 3 per cent, but if you pay in 5 per cent, the employer agrees to match it," explains Mr Byrne.
"There would be some people opting just to put the minimum in," he says.
Employees need to keep track of how much they will need to put into their fund in order to buy an adequate pension, he adds. The IAPF recommends that projection tools be provided to members to help them to do this.
Lack of affordability and poor investment returns are also identified as challenges for defined contribution pension scheme members.
Increasing lifespans are compounding the negative impact of the current low interest rate environment on the cost of annuities, the IAPF report notes.
This means members of defined contribution pensions actually need to put more into their fund now in order to buy the same level of pension that they could have got 10 or 20 years ago.
