If you are offered a defined benefit pension, grab it

What would you say if I told you that there are thousands of charity employees out there who could boost by 20 per cent the amount given to them by their employer, without changing job or incurring any risk at all, but are choosing not to?

You might doubt it, but it’s true. They’re the people who are entitled to join their charities’ defined benefit pension schemes, but haven’t.

These are schemes where the company guarantees what level of pension an employee will receive in retirement, usually a proportion of their final salary. They are incredibly generous schemes and they’re rare in most sectors, but unusually common in the third sector.

Most employees who opt out do so because they would have to make some contributions themselves, and no one likes to give up cash now to pay for their old age. But they’re missing out on a good deal for the future. Often, a £1,000 contribution from the employee will bring several thousands from the employer for their later life.

What’s bad news for them, though, is probably good news for the thousands of third sector organisations in multi-employer defined benefit schemes.

These are schemes where several employers have grouped together to offer the same benefits. Charities can be members of public sector schemes, those offered by larger charities, or group schemes such as those run by the Pensions Trust.

Many members of these schemes admit they simply could not afford their pension obligations if every employee took up their right to have a pension.

Many charities joined these schemes years ago, often because they took on public sector staff who already had defined benefit pensions. Often they looked like a good idea, but history has proved otherwise.

These schemes have turned out to be terrible ideas for many reasons, but mostly because people are living longer, which means their employers have to pay for longer to keep them in their old age.

As life expectancy lengthens and lengthens again, the cost of these schemes rises every few years. And because these schemes contain many employers, each one individually has little control over what they pay. So why not leave?

The truth is that it’s very difficult to get out. Most charities are well behind on their payments, and leaving a scheme usually involves making good all your debts – and paying a hefty premium on them.

The really worrying thing is that many charities have no idea about the trouble they are in, and may easily find they have a huge debt they do not know about.

Several times, when the final employee in the scheme leaves the organisation, a charity has found it must cough up a huge amount of cash – possibly a year’s income.

There are few good answers to the problem. The best actuaries can say is that you need to manage your risks as best you can, get out if you are able, and think very carefully before you take on any public sector contracts which involve taking on staff.

If you are an employee, on the other hand, and your employer offers you a defined benefit scheme, it’s probably a good idea to grab it with both hands.