With profits pensions principles
- The money you and others have paid in is invested in stock and shares, bonds, property and cash.
- Insurance companies manage their own with profits funds. They’ll pay you an annual bonus based on the fund’s growth, after first taking off the cost of running their business. It’s a kind of ‘profit’ and once it’s paid it can’t be taken away.
- In the good years some of the fund’s profits are kept back. They’re used to pay you bonuses when things don’t go so well, and the fund drops in value. This is called ‘smoothing’ because the fund’s highs and lows are ironed out. That means it’s highly likely you’ll get a bonus every year.
- It’s possible an extra bonus called a terminal, or maturity bonus will be paid when you retire, or if you die.
What types of pensions use with profits?
The most popular arrangements are money purchase pension schemes. The amount of retirement income you receive depends on how much you pay in, and how well the with profits fund grows your money over the years.
When you retire, a with profits annuity pays you an income for life. There’s a minimum income you’ll receive, and on top a further amount is payable from the with profits bonuses. Whether you get more, or less depends on the bonuses paid to you each year.
In bad economic times, should you decide to transfer away from your with profits fund to another pension or investment fund then the amount transferred over is reduced by the insurer. The reason for this is to protect other customers from a large flow of money out of the fund.
Why are with profits pensions less popular?
The performance and bonus rates paid by the insurers have varied greatly coupled to the fact that most funds are no longer open to new customers. Despite this decline, there are still billions of pounds invested in them.
As an investment choice, with profits is not that easy to understand. It’s very difficult to compare each fund’s performance and potential to keep paying you bonuses. For instance, in a single year an insurer paying higher bonuses than other companies might struggle to do so in the future.