When the members of your defined contribution pension scheme reach the end of their working lives, they’ll be looking at what they have and asking: is this enough? So will you.

If your members can’t afford to retire, that is not just bad news for them. It creates workforce management challenges for you too.

It’s in everyone’s interests to have this conversation while there’s still time to solve the problem. With a clearer idea of what the future holds, your members will be better placed to take action – and so will you.

To find out whether your defined contribution pension gives members enough, first you have to work out what income their savings could buy them. But as it turns out, that’s a surprisingly tricky question to answer.

How much is enough?

Imagine turning up at a petrol station with £20 in your pocket. You go to the pump, put in £20 worth of unleaded and drive off. Have you put enough petrol in your car?

Well, it depends. How much gas does your gas guzzler guzzle? Where are you going? How far is it? What will the conditions be like on the way?

When you’re looking at a DC pension and deciding if it’ll give your members what they need, the answer’s pretty similar.

It depends.

But what does it depend on?

Three things affect what your members get from their DC pensions

Assuming your members are looking for an income in retirement that meets their costs of living, here’s what affects how big that income could be.

How long the money needs to last

The number of years the money has to last affects how much money your members get each year, and therefore the standard of living they can enjoy. That’s an all-important issue when they’re deciding whether or not they can afford to retire. Assuming they haven’t picked a pension that pays out for a fixed period of time, here’s what affects how long their money needs to last:

How old they are
When they expect to retire
Single or couple

How old your members are now dictates how long they’ve got before they retire – and how long they can expect to live. Generally speaking, the younger people are, the longer they’re expected to live. That’s not just because younger people have more years left. It’s also because they’re expected to live for more years in total. The more years they live, the longer their money has to last. The longer it has to last, the smaller each chunk of it becomes.

When it comes to working out life expectancy, everyone looks at the same numbers – created by the friendly-sounding Continuous Mortality Investigation Ltd. A note of caution: they update their assumptions every eight years. When the assumptions change, so does the length of time your members’ money needs to last.

Whether they want the same amount of money each year or the same amount of stuff

This decision’s down to them. If they think they’ll buy less stuff in the future, then they’re OK with the same money each year. If they think they’ll need to buy the same stuff in the future as they do today, they’ll need more money each year (because of the ever-increasing price of stuff). That means an inflation-linked income.

An inflation-linked income will give them lower payments in retirement to begin with than an income paying the same money every year. But unlike a flat income, it will increase over time, getting more valuable the longer they live.

How much other people are prepared to pay to use members’ money

When your members save and invest, they’re letting someone else have their money for a while, in return for getting something back. That ‘something’ varies over time. In the savings account world, it’s an interest rate that goes up and down.

Ten years ago, banks would
have paid you £6 each year
for every £100 you saved.

Now it’s more like 50p. To get
the same £6 in interest, you’d
need to save 12 times as much.

In the pensions world, we don’t look at interest rates. We look at government bond yields instead. Just like interest rates, they go up and down. And just as with interest rates, when they’re low, bond investors have to put more money in to get the same out.

It doesn’t mean anyone actually has to buy bonds. That’s just the starting point. Think of it as the arrival time on your sat nav. You can choose to go faster if you want, but you’ll be taking a risk if you do. Other investment options might promise a higher reward, but they’ll bring more risk too - and therefore less certainty.

Put these three things together and you can see what your members are likely to get. But what happens if things change?

How much retirement income might your members’ savings buy?

Current Age:?
Retirement Age:
Income For:?
Income Type:?
Amount of Savings today:
Enter your age and savings to begin

How much does it cost to buy £1 of retirement income?

Current Age:?
Retirement Age:
Income For:?
Income Type:?
Target Income:
Enter your age and target income to begin

How has the price of retirement income changed over time?

Current Age:?
Retirement Age:
Income For:?
Income Type:?
Enter your age to begin

How your members can get more

If everything’s on track, great. You can relax and get on with life.

But what if you’re not? What can you do about it?

As a scheme member, you can save more, switch funds, work longer – or a bit of all three.

As an employer, you can change your contribution or your match rate, offer your employees different funds, or plan for them not retiring for a while.

With a clearer picture of the future, you’re better placed to take action.

Get in touch to find out what your future might hold