Let's get personal on the pension question

For many people, a personal pension plan is the only option - but how can you choose the one that best fits your future needs? By Iain Morse

EVERYONE NOW knows about the need to make adequate pension provision. Anyone offered membership of an occupational scheme should take it. But, for the self employed, or those with un-pensioned employment, a personal pension is the only option.

Personal pensions carry plenty of tax breaks, but care is needed when choosing a plan best suited to your circumstances. John Hylands, pensions manager at Standard Life, says: "The key issue is to find a plan that fits the likely course of your employment and earnings history.

"Fewer of us expect to stay in one job with one employer for life. There's plenty of evidence to suggest a growing number of those in white collar jobs, who would have been employed, are moving to self-employment. Also, real earnings can peak far earlier, then decrease long before retirement age."

Look closely at any of the 80 or so plans currently available, and you will find that, while similar in outline, exact terms of each contract will differ widely. Figuring out the actual costs of these differences will tell a lot about which plan to select.

Pay attention to charging, fund choice, what happens if you stop then re-start contributions, fall ill, or want to transfer your pension fund between providers. Watch out for gobbledegook, which sometimes appears in sales literature.

Start with charging structures. This is important because, unless you take a plan which pays no commission to company salesmen or independent financial advisers (IFAs), the cost of their commission will be deducted from your monthly premiums over some or all of the policy term.

Most plans offered by life companies will offer an "allocation rate" on a plan. This can be expressed in different terms, say as 95 per cent of premiums paid, but it represents the percentage of your premium that actually gets invested into the pension fund of your choice. The difference - in this case 5 per cent - is deducted to pay commission and other setting- up costs.

Standard Life has an allocation rate of 95 per cent on its personal pension, while Scottish Equitable offers a "high maturity value option" with an allocation rate of between 100 and 102.75 per cent. This makes the Scottish Equitable plan look like a better choice.

But on premiums of pounds 50 a month over 30 years, Standard Life deducts just pounds 100 from the first year's premiums while Equitable takes pounds 321. After three years the respective figures are pounds 303 and pounds 712.

The difference is that Standard Life makes level charges on its pension plans, which means you pay the same amount each year through the policy term. Scottish Equitable's high maturity option includes front-loaded charges. These charges are based on the premiums you agree to make when starting the plan, and will be deducted even if you fail to stay the course.

If you are unable to continue paying premiums after, say, three years, the "transfer value" of Standard Life's plan would be pounds 1,710, while Equitable's would be just pounds 1,260, assuming both funds grow at 9 per cent each year. Transfer values are theoretical: they estimate the cash value of the policy if you choose to switch it to an alternative provider. But they serve as a guide for the paid-up value of a policy left in place to grow until retirement.

But if you do manage to make all your payments to Scottish Equitable, it promises a higher maturity value of pounds 64,900 against pounds 60,900 from Standard Life. There's no general rule on this, but level charging plans will probably be cheaper if you stop and start contributions. Front-loaded plans may give higher maturity values, if you stay the course and complete your payments.

At least one reason for choosing a regular premium plan is that most providers offer "premium waiver" or "waiver of contribution benefit". This pays your pension contributions if you are unable to work due to ill-health or disability. Typically, it will cost between 1 and 3 per cent of the premiums you pay.

But some pay only if you are unable to do your existing job, some on inability to do any job to which you are suited, others only if you cannot work at all. Just as important, some waivers are indexed to rise in line with inflation, others with any premium increases, while some pay only "level" benefits.

Fund choice is another issue. Andrew Warwick-Simpson, a partner in the actuarial firm Bacon & Woodrow, argues: "The longer you have until retirement, the greater the risks you can take, but there should be a minimum range of funds in any plan you select.

"These should include a managed equity fund for long term growth, a with- profits fund against market turbulence, and a fund investing into long- dated gilts."

Some providers, including both Standard Life and Scottish Equitable, offer "lifestyle pensions", which will switch your cash from high to low risk funds automatically as you approach retirement.

There are other issues to take into account. For instance, personal pensions can be written in trust, so that, if you die before using them to buy an annuity, the whole fund will be payable to your heirs free of inheritance tax.

"The key issue remains that of how you have to pay for your pension plan in terms of charges," argues Mr Warwick-Simpson. "And making sure that you choose the most flexible contract you require without extra costs or penalties."

HOW MUCH CAN YOU

CONTRIBUTE TO A

PERSONAL PENSION?

CONTRIBUTION LIMITS to a personal pension are banded by age group as a percentage of "net relevant earnings". These earnings can be from self employment or un-pensioned employed earnings. The maximum contribution includes tax relief at the lower and higher rates. You cannot count pension earnings above the "earnings cap" of pounds 87,600. Inland Revenue maximum contribution limits. Age at beginning of tax year. Contributions as a % of net relevant earnings.

35 or less 17.5%

36-45 20%

46-50 25%

51-55 30%

56-60 35%

61-74 40%