In our weekly series, readers can email in with any questions about retirement and pension savings to be answered by our expert, Tom Selby, director of public policy at investment platform AJ Bell. There is nothing he does not know about pensions. If you have a question for him, email us at money@theipaper.com.
Question: I’m a serving soldier and trying to get pension help is very hard. It’s complex and people don’t give it much thought until they are due to leave. HR hide under an umbrella of not being able to give pensions advice.
I and many others have discovered that my post is likely to be cut before I reach the immediate pension age of 60, but I also discovered the term “actuarially reduced pension”, which I think is a smaller pension you get before retirement. Can you explain how this works and will I be eligible for a lump sum.
I also heard that an “actuarially reduced pension” never increases. Does that mean I will never get annual increases in line with inflation?
Answer: Just like your HR department, I’m unable to give you advice based on your personal circumstances, but I can provide some general information on the pension arrangements available to the Armed Forces and the impact of taking your retirement income early. If you want someone to provide you with a personal recommendation, you’ll need to speak to a qualified financial adviser.
There are three different versions of the Armed Forces Pension Scheme with different terms attached to them. Since April 2022, all serving personnel build up new benefits in “AFPS 15”, although many will also have rights under the older schemes.
AFPS 15 is a “career average defined benefit” scheme, meaning for each year you are a member of the scheme you receive a portion of your average earnings as a guaranteed income for life from your scheme’s “normal pension age”. Its accrual rate is 1/47th, which is the proportion of your pensionable earnings added to your annual pension for each year of service.
For example, if your pensionable earnings are £47,000 in a particular year, you will build up £1,000 a year of pension from that year. This amount is then revalued under the scheme rules while you remain an active member. AFPS 15’s normal pension age for serving members is 60. If you leave before 60, the pension you have built up will normally become a deferred pension, payable in full from your state pension age.
Unlike most defined benefit schemes, the Armed Forces scheme allows members to receive an “early departure payment” if they have at least 20 years’ service and have reached their 40th birthday. This reflects the unique nature of a career in the armed forces, where people often leave service before they receive their pension.
The early departure payment provides a lump sum and bridging income until the AFPS 15 pension comes into payment at state pension age. Crucially, unlike in other defined benefit schemes, receiving this payment should not result in an ‘actuarial reduction’ in the pension you are entitled to from state pension age.
The formula for calculating this payment is complicated but, broadly, members usually receive around 30 per cent to 50 per cent of their pension entitlement as an annual income until normal pension age.
They should also receive a lump sum equal to 2.25 times the annual deferred pension. The early departure payment is generally paid at a flat rate until age 55. At that point it should rise each year in line with inflation. The main AFPS 15 pension is also inflation-linked, both while it is deferred and once it comes into payment.
Beyond this early departure payment, it is also possible to access your main pension from age 55, although this is the point at which an actuarial reduction will be applied by the scheme. This reduction should be set at a fair rate by the scheme’s actuary and will vary depending on how early you take your pension and the actuary’s assessment of the financial impact on the scheme at that time.
You can still give up part of your reduced annual pension in exchange for a tax-free lump sum. For every £1 of yearly pension you give up, you will receive £12 as a lump sum.
You should therefore think carefully about whether you need the income early as you will receive a lower amount for the rest of your retirement. Regardless of whether you take your main pension early or not, you should still continue to benefit from inflation protection on your retirement income.
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