Gulf widens for pension schemes

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A 25-year-old worker who joins a defined contribution scheme this year, into which they pay 2.7% of their salary and their employer contributes 6.5%, could expect to receive an annual pension of £16,023 if they retired at 65.

But this income is just 28% of the pension of £57,714 a year that a 25-year-old who joined a final salary scheme could expect to receive in 40 years' time, according to insurer Prudential.

The research highlights the growing gulf between the retirement incomes that people who belong to defined contribution schemes can expect compared with those who join final salary ones.

Under final salary schemes employers state how much a pension will be worth on retirement, based on the number of years a worker has belonged to the scheme and their pay immediately before they stop work.

But under less generous defined contribution schemes, employers only guarantee how much they will contribute to the scheme, leaving the individual to shoulder the risk of investment volatility and increased life expectancy.

The majority of private sector final salary schemes are now closed to new members, as they have become increasingly expensive for companies to offer, although most public sector ones remain open.

The difference in retirement incomes between workers in the two types of scheme is even starker for people who retire early, with a worker who retired at 60 likely to receive an annual income of just £8,836 from a defined contribution scheme, compared with one of £47,826 for a member of a final salary one.

However, one of the factors driving the lower defined contribution pensions is likely to be the lower contributions that are made into the schemes.

Workers' pay in an average of just 2.7% of their pay into defined contribution schemes, compared with contributions of 4.9% made by employees into final salary schemes, while employers pay in around 6.5% to defined contribution schemes, well down on the 15.6% paid into final salary schemes by companies.