Time to build a stake in the future

Preparing for retirement is changing fast. Here is <i>The Independent's</i> full guide to recent developments

You could grow old prematurely trying to work out what is the best way to save for retirement, as the Government continues to bring out a bewildering series of pensions initiatives, from stakeholder pensions to Individual Pensions Accounts (IPAs).

You could grow old prematurely trying to work out what is the best way to save for retirement, as the Government continues to bring out a bewildering series of pensions initiatives, from stakeholder pensions to Individual Pensions Accounts (IPAs).

Just this week new guidelines on how much money you can keep in the bank while saving for old age were introduced. Next April a whole new way to build up a savings pot, the low-cost stakeholder scheme, will be launched.

It may seem tempting to stick to what you know, whether it is your private pension or whatever alternative scheme is available to you at work.

Or perhaps you have put off thinking about a pension, as the subject seems so complicated. In order to clear the fog and provide a few answers to these questions, we have put together The Independent's guide to the latest pensions changes.

Should I consider taking out a stakeholder pension?

Stakeholder pensions come in next April and, from all the hype surrounding them, you would think that not to have one will lead to a life of abject misery. This is not the case, but there are advantages to having one.

The Government's aim in introducing the stakeholder pension is to encourage less well off people to provide for their old age. Charges will be kept to an absolute minimum.

Demographic changes, such as increases in life expectancy and stagnant birth rates, mean that the state will not in the future be able to afford the level of pensions it has provided in the past, and it is vital that individual citizens make their own provision for retirement.

Under rules laid down by the Government, stakeholder pensions will have charges of only one per cent of the total value of the fund a year and there will be no up-front charges.

As well as the low charges, there will be extra flexibility, as stakeholders will offer a low-cost way to build up a pension fund for anyone moving between jobs, or varying their contributions. Any one can take advantage of the scheme, as long as they don't already have an occupational pension. If you do, you can still have a stakeholder if you are not earning more than £30,000 a year.

Stakeholders will also give more freedom than the current system of added value contributions schemes (AVCs), which allow you to top up your occupational scheme.

AVCs are available to anyone, unlike stakeholders, but there are restrictions on how you can take your money. In contrast to most schemes, which allow you to take 25 per cent of your pension pot as a tax-free lump sum on retirement, any money accrued in an AVC has to be directly contributed to your annuity.

Experts predict for this reason alone that there will be a major shift to stakeholders, which do allow you to take out 25 per cent tax free.

Are there any disadvantages to stakeholder schemes?

Yes. As with life, with pensions. While stakeholders will give you extra flexibility, they will also offer limited choices in investment terms. Don't expect a wide range of funds to put into your pension, in what is after all a "cheap and cheerful" option.

This may put you off taking out a stakeholder in preference to another type of pension, as there are restrictions on how much of your earnings you can contribute to your pension. The limits are 17.5 per cent of earnings for those under 35, through to 40 per cent for those aged between 60 and 74.

It is also worth bearing in mind that stakeholders come without advice. There is no ban on you seeking advice on what to do, but that guidance will cost you, in the form of broker's fees for instance, on top of the one per cent. If you want to avoid a fee for advice, there will be a "decision tree" to go through - a standard chart consisting of a series of questions, which, though not designed just for you, should guide you to the best pension.

Stakeholders seem a bit restrictive. Are there any other more flexible new products coming onto the market?

Yes. From next April you will also be able to take out an individual pension account (IPA).

IPAs are designed to give you more power over how your pension fund is invested.

They will allow you to invest directly in unit trusts and investment funds, rather than handing over your pension contributions to a life office, which then invests your premiums on your behalf. In contrast to stakeholders, IPAs should allow the more adventurous investors to put their money into exotic funds that can yield high growth, but at high risk.

While prices have not been established yet, switching between funds within the IPA will be free of charge and IPAs will be available through some stakeholder schemes.

With all this saving for retirement, doesn't it just mean I get less support from the state at the end of the day?

This Government has put great emphasis on prudence and saving for retirement. Experts predict we are moving towards a situation where people are compelled to be thoughtful and save for their retirement.

However, the Government is also working on developing schemes to make it more attractive to forgo spending freely now, in return for a more comfortable life-style in old age.

Although details are yet to be worked out, Alistair Darling, secretary of state for Social Security, promised this week to introduce a new "pension credit". This would enable people with modest savings to escape having to pay high rates of tax.

At the lower end, changes to State Earnings Related Pensions (Serps) should boost pensions for the low paid. Under proposals that will be introduced in 2002, Serps will be scrapped altogether and replaced by the Second State Pension. The change is intended to help the lowest paid, and new groups like full-time carers, who do not have any income and so are not at present entitled to Serps.

There seem to be lots of distinction between men and women when it comes to pension rights. Will these differences be evened out?

Broadly yes. One major change, that should on balance work to women's advantage, will come into force by the end of this year.

From 1 December divorced couples will be able to force their pension provider to split a pension to which they both have entitlement.

This compares to the current position, which only allows divorcees to claim a share of the pension when it pays out. This can be extremely perilous, as it leaves one person in charge, who can choose to abandon contributions in the mean time. It also means you have to keep in touch with some one you may much rather not see again.

However, splitting the pension could cause a problem.

Divorcing couples tend to be young, with small pensions. The benefit of splitting the fund could be offset by the charges that such a split would incur.

Women won't necessarily be pleased to learn that the age when they can claim a state pension will be 65, the same as for men - but not until 2020.

Are there any changes to rights, and entitlements due to you if your spouse dies?

From next year the DSS will start to sort out the muddle it has made over people's rights to SERPs belonging to a husband or wife who has died.

From 2002 you will get only 50 per cent of your spouse's SERPs. But the thousands of people who were not warned of the change, or who were misinformed, will still be entitled to the full 100 per cent currently given. Next year you will need to contact the DSS if you think you fall into that category.

Is it worth worrying about which pension to choose, when annuities are so low?

It is true that annuity levels are at all-time lows, due to the historically low levels of interest rates and inflation, and to increased life expectancy.

While it is premature to get excited, in the future there should be changes. Options being discussed include scrapping annuities altogether - which will mean you could do what you like with your pension pot.

More likely will be that you will be allowed to keep more of the pot outside the annuity.

Other changes coming down the line include the way pensions are likely to be funded and the way pension companies guard themselves against risk.

While neither will have a massive impact on pension products on the market, the changes could make it easier to create faster growth, which could mean a larger return.

There is one thing for certain - it is vital to seriously consider providing for your old age, as the state will not be doing so in the future. And the younger you start saving, the better.