Understanding the language of pensions and retirement

QUESTION: There is much discussion taking place on retirement and pensions but I often am not able to follow because I am not familiar with many of the terms being used. Would you be kind enough to explain some common pension and retirement terms for my benefit and many others like me?

- Janique

PFA: I agree with you. To understand pensions and retirement, you must understand their language.

A pension is the income received for a lifetime from an approved pension arrangement, and also from a non-approved pension arrangement, by a person who has retired. Such payment should be made at least annually.

In addition to the member of the approved pension arrangement, another person may be entitled to pension benefits provided under the pension plan upon the death of the member.

pension arrangements

An approved pension arrangement is one that is sanctioned by the government. There are two types: a superannuation fund and a retirement scheme.

Also called a group pension plan, a superannuation fund is established by a company or association for the benefit of its employees and members. A retirement scheme is established by a company licensed to transact this type of business. A person who is not a member of a superannuation fund may join a retirement scheme.

A pension normally commences at the normal retirement age, the age at which employees officially retire, that is, automatically leave the workforce, ranging generally between 60 and 65.

You may have noticed that the National Insurance Scheme is moving, over a five-year period, to gradually move the age at which women qualify for NIS retirement benefits from 60 to 65, the eligible age for men. Other countries, France, for example, are moving to increase the retirement age.

Employees may opt to retire for full pension before the normal retirement age upon completion of thirty-seven and one half years of service.

An approved superannuation fund or approved retirement scheme may specify that a member may become eligible for early retirement, not earlier than ten years before the normal age of retirement, except on the grounds of ill-health, or for later retirement, not more than five years after the age of retirement.

All superannuation funds and retirement schemes must have a board of trustees or a corporate trustee with the responsibility for operating them according to their trust deeds and rules in the best interest of the members and their beneficiaries.

Every approved pension arrangement is established as a trust and must, therefore, have a trust deed, which is a contract between the sponsor and the trustees to manage it according to the stated conditions. The rules expand on the contents of the trust deed and usually introduce new items.

Vesting usually occurs after a specified minimum number of years of membership in an approved pension arrangement. The vesting formula states the amount of money available, not including the member's contribution, to provide a deferred pension at the normal retirement age for the member who withdraws from it before attaining the normal retirement age.

Accrued pension rights are preserved when they are not available to a withdrawing member in cash. The money may remain in the approved pension arrangement to provide a deferred pension at the normal retirement age or may be transferred to another approved arrangement to provide a pension benefit at the normal retirement age.

The required basic or mandatory member contribution is a stated percentage of taxable salary which each member must contribute to the approved pension arrangement. The member may also make a voluntary or optional contribution which is also a stated percentage of taxable salary.

The two most popular types of approved pension arrangements are the defined contribution (money purchase) plan and the defined benefit plan.

Under the defined contribution plan, the member makes basic and voluntary contributions at a clearly defined rate; the employer also contributes at a clearly defined rate on behalf of the member.

The contributions are put into an account and accumulate interest which may or may not be guaranteed. At normal retirement age, or earlier termination, an actuary will determine the amount of monthly pension that the value of all contributions can buy based on the retirement pension option chosen by the member.

The annual pension benefit at retirement, under the defined benefit plan, is determined by a prescribed formula. There are three varieties of this type of plan - the career average salary plan, the modified career average salary plan, and the final salary plan, which generally gives the best pension.

Whereas a superannuation fund may be a defined contribution plan, or a defined benefit plan, all retirement schemes are defined contribution plans.

Oran A. Hall, a member of the Caribbean Financial Planning Association and principal author of 'The Handbook of Personal Financial Planning', offers free counsel and advice on personal financial planning. Email: finviser.jm@gmail.com