I don't have any pension background at all. I hope someone can explain it in more detail. Thank you!
From Acted Notes: "
Defined benefit schemes
The cost of providing all of the benefits is not known with certainty until all the benefit payments have been made. There may be some flexibility as to when the money is set aside to pay for members’ benefits. At one end of the scale, no money may be set aside in advance and the money found just as each benefit payment is made – this means the scheme is unfunded and the benefits are being financed on a pay-as-you-go basis. This is how the Basic State pension works in the UK. Alternatively, the scheme may be funded – this means money is set aside before the benefit payments are made and investment returns can be earned on this money. Most occupational schemes are funded.
Defined contribution schemes
Money is almost always set aside gradually over the member’s working lifetime. The timing of when money is paid into the scheme is key, since the money needs to be invested at the right time to earn the investment returns that will provide an adequate pension."
From my understanding, for DB scheme, amount that the members will receive in retirement depends on final 3 years average salary, and the calculation is known.
For example, annual salary for first 20 years is £20,000. annual salary for last 10 years is £30,000.
years of service = 30 years, last 3 average salary = £30,000, final factor = 1.5%
So, member will receive = 30 * £30,000 * 1.5% = £135,000 (Please correct me if I'm wrong)
So, my questions are:
1. The cost of providing all of the benefits is not known with certainty until all the benefit payments have been made. --> Why cost is unknown until all benefit payments have been made? We have the all details of salary, services years, factor, we know the cost to pay is £135,000
2. scheme is unfunded and the benefits are being financed on a pay-as-you-go basis --> The 'pay as you go' means pension company will find money to pay when members claim their benefits? Why do they do this as this is very risky?
3. Does funded simply means set money aside and unfunded means no set money aside?
4. The timing of when money is paid into the scheme is key, since the money needs to be invested at the right time --> The timing is fix isn't it? Like the payment made by members are annually. Else, can give me a simple example on this?
Thank you
From Acted Notes: "
Defined benefit schemes
The cost of providing all of the benefits is not known with certainty until all the benefit payments have been made. There may be some flexibility as to when the money is set aside to pay for members’ benefits. At one end of the scale, no money may be set aside in advance and the money found just as each benefit payment is made – this means the scheme is unfunded and the benefits are being financed on a pay-as-you-go basis. This is how the Basic State pension works in the UK. Alternatively, the scheme may be funded – this means money is set aside before the benefit payments are made and investment returns can be earned on this money. Most occupational schemes are funded.
Defined contribution schemes
Money is almost always set aside gradually over the member’s working lifetime. The timing of when money is paid into the scheme is key, since the money needs to be invested at the right time to earn the investment returns that will provide an adequate pension."
From my understanding, for DB scheme, amount that the members will receive in retirement depends on final 3 years average salary, and the calculation is known.
For example, annual salary for first 20 years is £20,000. annual salary for last 10 years is £30,000.
years of service = 30 years, last 3 average salary = £30,000, final factor = 1.5%
So, member will receive = 30 * £30,000 * 1.5% = £135,000 (Please correct me if I'm wrong)
So, my questions are:
1. The cost of providing all of the benefits is not known with certainty until all the benefit payments have been made. --> Why cost is unknown until all benefit payments have been made? We have the all details of salary, services years, factor, we know the cost to pay is £135,000
2. scheme is unfunded and the benefits are being financed on a pay-as-you-go basis --> The 'pay as you go' means pension company will find money to pay when members claim their benefits? Why do they do this as this is very risky?
3. Does funded simply means set money aside and unfunded means no set money aside?
4. The timing of when money is paid into the scheme is key, since the money needs to be invested at the right time --> The timing is fix isn't it? Like the payment made by members are annually. Else, can give me a simple example on this?
Thank you