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The Group operates a number of defined benefit and defined contribution schemes.

For the UK defined benefit schemes, the assets are held in separate trustee administered funds and employees are entitled to retirement benefits based on either their final or career average salaries and length of service.

Overseas defined benefit schemes are a mixture of funded and unfunded plans. Additionally in the US, and to a lesser extent in some other countries, the Group’s employment practices include the provision of healthcare and life insurance benefits for retired employees. These schemes are unfunded.

The valuations of the defined benefit schemes are based on the most recent funding valuations, updated by the scheme actuaries to December 31, 2008. The most recent funding valuations of the main UK schemes were:

Scheme						Valuation date
Rolls-Royce Pension Fund						March 31, 2006
Rolls-Royce Group Pension Scheme						April 5, 2007
Vickers Group Pension Scheme						March 31, 2007

Amounts recognised in the income statement
	2008			2007
	UK schemes £m	Overseas schemes £m	Total £m	UK schemes £m	Overseas schemes £m	Total £m
Defined benefit schemes:
Current service cost	127	27	154	100	25	125
Past service cost	5	3	8	131	2	133
Ex-gratia payment paid directly by the Group	8	—	8	—	—	—
	140	30	170	231	27	258
Defined contribution schemes	6	20	26	3	17	20
Operating cost	146	50	196	234	44	278
Financing (income)/costs in respect of defined benefit schemes:
Expected return on assets	(352)	(21)	(373)	(367)	(17)	(384)
Interest on liabilities	358	37	395	323	31	354
	6	16	22	(44)	14	(30)
Total income statement charge	152	66	218	190	58	248
The operating cost is charged as follows:
Defined benefit			Defined contribution		Total
	2008 £m	2007 £m	2008 £m	2007 £m	2008 £m	2007 £m
Cost of sales	124	223	19	15	143	238
Commercial and administrative costs	33	26	5	4	38	30
Research and development	13	9	2	1	15	10
	170	258	26	20	196	278
Amounts recognised in the statement of recognised income and expense
					2008 £m	2007 £m
Actuarial gain on scheme assets					178	161
Experience gains on scheme liabilities					766	350
Movement in unrecognised surplus					(928)	(112)
					16	399

In December 2007, PaySave was introduced in the UK. This a salary sacrifice scheme under which employees elect to stop making employee contributions and the Group makes additional contributions in return for a reduction in gross contractual pay. As a result, there has been a decrease in wages and salaries and a corresponding increase in pension costs of £38m (2007 £3m) in the year.

Defined benefit schemes

Assumptions
The principal actuarial assumptions used at the balance sheet date were as follows:

	2008		2007
	UK schemes %	Overseas schemes %	UK schemes %	Overseas schemes %
Rate of increase in salaries	4.5	3.9	5.0	3.8
Rate of increase of pensions in payment1	2.9	0.5	3.5	0.4
Discount rate	6.4	6.1	5.8	6.0
Expected rate of return on scheme assets	4.1	6.9	5.4	7.5
Inflation assumption	3.0	2.6	3.5	2.5

¹Benefits accruing after April 5, 2005 are assumed to increase in payment at a rate of 2.1 per cent.

The discount rates are determined by reference to the market yields on AA rated corporate bonds. For the main UK schemes, the rate is determined by using the profile of forecast benefit payments to derive a weighted average discount rate from the yield curve. For less significant UK schemes and overseas schemes, the rate is determined as the market yield at the average duration of the forecast benefit payments. The discount rates above are the weighted average of those for each scheme, based on the value of their respective liabilities.

The overall expected rate of return is calculated by weighting the individual returns expected from each asset class (see below) in accordance with the actual asset balance in the scheme’s investment portfolios.

The mortality assumptions adopted for the UK pension schemes are derived from the PA92 actuarial tables, with medium cohort, published by the Institute of Actuaries, projected forward and, where appropriate, adjusted to take account of the relevant scheme’s actual experience. The resulting range of life expectancies in the principal UK schemes are as follows:

Life expectancy from age 65
Current pensioner	17.5 years to 22.2 years
Future pensioner	19.5 years to 23.9 years

Other demographic assumptions have been set on advice from the relevant actuary, having regard to the latest trends in scheme experience and other relevant data. The assumptions are reviewed and updated as necessary as part of the periodic actuarial valuation of the schemes.

Assumptions in respect of overseas schemes are also set in accordance with advice from local actuaries.

The future costs of healthcare benefits are based on an assumed healthcare costs trend rate of 8.9 per cent grading down to 5.0 per cent over seven years.

Amounts recognised in the balance sheet

	2008			2007
	UK schemes £m	Overseas schemes £m	Total £m	UK  schemes £m	Overseas schemes £m	Total £m
Present value of funded obligations	(5,719)	(390)	(6,109)	(6,335)	(293)	(6,628)
Fair value of scheme assets	7,163	283	7,446	6,626	277	6,903
	1,444	(107)	1,337	291	(16)	275
Present value of unfunded obligations	—	(437)	(437)	—	(284)	(284)
Unrecognised surplus 1	(1,036)	(6)	(1,042)	(110)	(4)	(114)
Net asset/(liability) recognised in the balance sheet	408	(550)	(142)	181	(304)	(123)
Analysed as:
Post-retirement scheme surpluses	453	—	453	210	—	210
Post-retirement scheme deficits	(45)	(550)	(595)	(29)	(304)	(333)
	408	(550)	(142)	181	(304)	(123)

¹Where a surplus has arisen on a scheme, in accordance with IAS 19, the surplus is recognised as an asset only if it represents an economic benefit available to the Group in the future. Any surplus in excess of this benefit is not recognised in the balance sheet.

Changes in present value of defined benefit obligations

	2008			2007
	UK schemes £m	Overseas schemes £m	Total £m	UK  schemes £m	Overseas schemes £m	Total £m
At January 1	(6,335)	(577)	(6,912)	(6,338)	(561)	(6,899)
Exchange adjustments	—	(196)	(196)	—	(15)	(15)
Current service cost	(127)	(27)	(154)	(100)	(25)	(125)
Past service cost	(5)	(3)	(8)	(131)	(2)	(133)
Finance cost	(358)	(37)	(395)	(323)	(31)	(354)
Contributions by employees	(4)	(2)	(6)	(38)	(2)	(40)
Net benefits paid out	331	25	356	286	18	304
Actuarial gains/(losses)	776	(10)	766	309	41	350
Transfers	3	—	3	—	—	—
At December 31	(5,719)	(827)	(6,546)	(6,335)	(577)	(6,912)
Funded schemes	(5,719)	(390)	(6,109)	(6,335)	(293)	(6,628)
Unfunded schemes	—	(437)	(437)	—	(284)	(284)

Changes in fair value of scheme assets

	2008			2007
	UK schemes £m	Overseas schemes £m	Total £m	UK schemes £m	Overseas schemes £m	Total £m
At January 1	6,626	277	6,903	5,673	233	5,906
Exchange adjustments	—	63	63	—	9	9
Expected return on assets	352	21	373	367	17	384
Contributions by employer	248	31	279	677	30	707
Contributions by employees	4	2	6	38	2	40
Benefits paid out	(331)	(25)	(356)	(286)	(18)	(304)
Actuarial gains/(losses)	264	(86)	178	157	4	161
At December 31	7,163	283	7,446	6,626	277	6,903
Actual return on scheme assets			551			545

The fair value of the scheme assets in the schemes and the expected rates of return at December 31, were as follows:

	2008		2007
	Expected rate of return %	Market value £m	Expected rate of return %	Market value £m
UK schemes:
LDI portfolio1	3.5	5,833	4.7	4,595
Equities	7.2	1,141	7.8	1,651
Sovereign debt	3.9	110	4.6	48
Corporate bonds	5.5	110	5.1	88
Other	1.9	(31)	4.9	244
	4.1	7,163	5.4	6,626
Overseas schemes:
Equities	9.0	134	9.0	165
Corporate bonds	4.9	130	4.8	86
Other	5.9	19	6.4	26
	6.9	283	7.5	277

¹A portfolio of swap contracts, backed by short-term money market deposits, that is designed to hedge, on an economic basis, the majority of the interest rate and inflation risks associated with the scheme’s obligations.

The scheme assets do not include any of the Group’s own financial instruments, nor any property occupied by, or other assets used by, the Group.

The expected rate of return for LDI portfolios is determined by the implicit yield on the portfolio at the balance sheet date.

The expected rates of return on other individual categories of scheme assets are determined by reference to gilt yields. In the UK, equities and corporate bonds are assumed to generate returns that exceed the return from gilts by 3.25 per cent and 1.75 per cent per annum respectively.

The expected rates of return above are the weighted average of the rates for each scheme.

Post-retirement benefits continued

Future contributions
The Group expects to contribute approximately £292m to its defined benefit schemes in 2009.

Sensitivities
The revised investment strategies are designed to hedge the risks from interest rates and inflation on an economic basis. A reduction of 0.25 per cent in the discount rate would increase the obligations of the principal UK defined benefit schemes by approximately £220m. An equivalent movement in interest rates would increase the fair value of the assets by approximately £320m. The difference arises largely due to differences in the methods used to value the obligations for accounting and economic purposes. On an economic basis the correlation is in excess of 85 per cent. The principal remaining risks relate to the assumptions for mortality and increases in salaries. If the age ratings in respect of the principal UK defined benefit schemes were increased by one year, the scheme liabilities would increase by £118m. If the rate of increase in salaries were 0.5 per cent higher, scheme liabilities would increase by £100m.

The defined benefit obligation relating to post-retirement medical benefits would increase by £50m if the healthcare trend rate increases by one per cent, and reduce by £41m if it decreases by one per cent. The pension expense relating to post-retirement medical benefits, comprising service cost and interest cost, would increase by £5m if the healthcare trend increases by one per cent, and reduce by £4m if it decreases by one per cent.

History of defined benefit schemes
The history of the schemes for the current and prior years is as follows:

	2008 £m	2007 £m	2006 £m	2005 £m	2004 £m
Present value of defined benefit obligations	(6,546)	(6,912)	(6,899)	(7,220)	(6,107)
Fair value of scheme assets	7,446	6,903	5,906	5,563	4,698
Unrecognised surplus	(1,042)	(114)	(2)	(2)	—
Deficit	(142)	(123)	(995)	(1,659)	(1,409)
Experience gains/losses
Actuarial gains on scheme assets	178	161	132	588	126
Experience gains/(losses) on scheme liabilities	766	350	470	(868)	(133)
Movement in unrecognised surplus	(928)	(112)	—	(2)	—
Total amount recognised in the statement of recognised income and expense	16	399	602	(282)	(7)
Cumulative since January 1, 2004	728	712	313	(289)	(7)