Defined Contribution Scheme

A Defined Contribution (DC) Scheme (also sometimes described as a Money Purchase Scheme) is in some ways the complete opposite of a Defined Benefit Scheme. In a DC Scheme the amount of money paid into the pension scheme is the focus e.g. the employer may promise to pay 5% of contributor’s salary into the scheme each year. These amounts are then invested to produce a fund at retirement. However the pension available at retirement will depend upon the level of contributions paid, investment returns earned and the cost of purchasing pension at retirement. These things cannot be known in advance and hence the pension it produces cannot be known also. The pension (or benefit) is not defined it is the contributions which are defined.

The starkest difference between a DC and a DB scheme relates to which party (company or member) bears the risk.

In a DB Scheme the benefit is promised and the company takes the risk of meeting the eventual cost of this, the cost cannot be known in advance and so could be more than the company was reckoning on.

In a DC Scheme the company pays a set amount into the fund. The amount of the eventual pension this will buy is unknown and the member bears the risk that the pension will be insufficient.

Company Pensions