The pension transfers business can be confusing.
On the one hand, we have enormous pension deficits which impact investment, and on the other hand, we have an aging population with the need for guaranteed or safeguarded benefits to last them into an increasingly longer old age.
Defined Benefit Pension transfers offer the means for employers to reduce pension liabilities.
Pension transfers enable pension members (employees and ex-employees) the means to gain more control over their retirment funds and take ‘flexible income’ in retirement.
That’s the crux of pension freedom laws passed in 2015.
However, there are BIG BIG (just to emphasis BIG) dangers with transferring a defined benefit pension with ‘safeguarded’ or ‘guaranteed’ benefits:
The regulator basically starts from here:
Any transfer from a Defined Benefit pension is unsuitable (unless there’s enough ‘evidence’ to show it was in a ‘client’s best interests’)
As a result, the pension transfers resulting in BILLIONS and BILLIONS of £££s may have been in ‘client’s best interests’ but many ‘probably’ haven’t been!
On a personal level, and this is just a personal opinion it’s like this.
Liabilites needed to be reduced. Most DB schemes were (and many still are) in deficit.
Solution: Transfer liabilites away
Risks: Consumers will lose their retirement funds (due to spending before they die and/or advere market movements) as all investment risk is now with the consumer rather than business.
Of course, perception and Public Relations are very very important.
Which is why there’s always lots of discussion around:
- Consumer protection;
- Unsuitable Advice;
- Contingent Charging;
- Value for Money.
This will continue forever.
Pension Transfers – Regulation
From a regulatory perspective the Financial Conduct Authority (FCA) has to perform a careful balancing act of ensuring rules are written and complied with to protect consumers, whilst at the same time, keeping busineeses happy.
Since pension changes made in 2015 there have been record outflows of funds from Defined Benefit (final salary) pension schemes.
The FCA has made a number of improvements over the years to pension transfer guidance (Conduct of Business rules COBs) to try to ensure best outcomes consumers.
Unfortunately, many of these changes are ‘after the event’.
Regardless of your opinion of the effectiveness of the FCA, regulatory changes put in place from March 2018; October 2018; and January 2019 strengthen protections for consumers.
And that’s a good thing!
COBs Rules impacting Pension Transfers.
WARNING: Pensions can be a complex area and each of our individual circumstances are different.
Current pensions legislation requires that appropriate financial advice from a qualified and FCA registered advisor is recommended for Defined Benefit (Final salary) pension transfers of £30,000 or more.
NOTE: If you’re a member of a public sector scheme such as the civil service, judiciary, police, teaching or NHS you are unable to transfer as these schemes are unfunded.
The exception is the Local Government Pension Scheme (LGPS).
Pension Transfers – Money Moves with Risk
Billions and billions have been transferred from defined benefit pension schemes and the driving force behind this has been the introduction of pension income flexibility changes announced in 2015.
And very generous transfer values, of course!
Some reasons for pension transfers at the ‘needy’ end of the consumer spectrum include:
- Paying down debt;
- Having a holiday;
- Securing property ownership;
- Helping children with deposits for houses;
- Using funds as part of a ‘phased’ retirement strategy;
- Flexibility of income withdrawals;
- Investment opportunities.
And at the ‘rosier’ and ‘wealthier’ end of the consumer spectrum……
The tranche (albeit much smaller) of Individuals with sufficient income from other sources including investments, property portfolios and savings.
In terms of pensions, these individuals may have a number of pensions and transferring has little impact on their overall financial situation.
As long a QE continues and the markets don’t collapse!
For these individuals, the driving motivation to make a pension transfer may be the ability to ‘pass on’ any unused pension funds upon death.
The advantage of these ‘passed on’ funds being potentially ‘separate’ from overall assets means for inheritance tax (IHT) they won’t count.
This is not the reality for most, however.
As a result, most of those transferring will be (or will have been) at the needy end of the spectrum.
That’s a fact.
Pension Transfers to Pay Down Debt?
If there are still outstanding mortgage costs (especially if no repayment plans have been made for an interest-only mortgage) as well as other secured/unsecured debt, a transfer is attractive.
Whilst it may appeal to reduce high-interest debt with transferred pension funds, a full and thorough review of your circumstances is always necessary.
If an assessment shows that a pension transfer is appropriate and the repayment of debt is a relatively low percentage of the overall transfer value then using these funds to repay debt can make sense.
Depending on the CETV the ‘Tax-Free’ cash element may be sufficient to pay down existing debt.
On the flip side, if you have high levels of debt this is potentially an indication that and you don’t manage your finances too well!
And the temptation to spend the proceeds from a pension transfer may be too much to resist!
In summary, in terms of purely paying debt, the decision to transfer valuable ‘safeguarded’ pension benefits needs careful consideration.
Your individual circumstances need to be fully assessed and the resultant advice to transfer assessed as ‘suitable’ by a qualified pension transfer specialist.
Pension Transfers – The Bank of Mum and Dad
Rocketing property values with stagnating real wage growth have put heavy demands on the `bank of Mum and Dad` over the last 20 years.
The social stigma of `renting` and not being on the `property ladder` with the associated ‘aspirations’ is unpalatable to many.
By accessing pension funds in order to enhance a deposit pride can be restored and a continuing sense of ownership is maintained.
However, as with the ‘paying down debt’ example above, this would not be enough justification (taken in isolation) to support that a pension transfer is suitable.
The exception to this may be if the allocation of transferred funds will not significantly impact income needs of the retiree and the deposit requirement is a relatively low percentage of the overall transfer value.
As above, a qualified pension transfer specialist will be needed to check that a transfer is appropriate for you.
Pension Transfers – A Phased Retirement Strategy
Does the thought of working any longer than necessary fill you with dread?
The irritating work colleagues?
Dreamy thoughts of the freedom to pursue leisurely pursuits provide a ‘second wind’ for life, and a welcome escape.
But leisurely pursuits require funding!
And, this funding level must be calculated up front, prior to retirement.
If there’s a shortfall it may be tempting to allocate transferred pension funds towards living costs.
This wouldn’t seem like the best course of action but as a short term fix (until other pensions/funds become available) using transferred pension funds to supplement income need requirements, might be appropriate.
In particular, as part of a ‘phased retirement strategy’, releasing funds and supporting income requirements early on can be efficient.
DID YOU KNOW?
Demonstrating income needs in retirement is very significant in justifying a pension transfer. A dim view is taken of any anticipated ‘shortfalls’ or failures to evaluate potential income shortfalls without adequate justification.
Pension Transfers – Increased Flexibility with Taking Income
A major advantage of being a member of a Defined Benefit pension is that a ‘known’ sum of money will be available on a regular basis (which will increase with inflation) for the rest of your life.
The regulator has moved away from calling such pensions ‘guaranteed’ but for many, this is the closest to a ‘guarantee’ you will ever get.
Benefits from a Defined Benefit pension will be paid until your life ends, whether in 10 years or 50 years time.
And if a spouse (husband or wife) or civil partner survive you, they’ll get 50% or so paid to them.
Whilst the stability of a regular income is right for many, for others a ‘plodding retirement’ and living to be 110 is not what they have in mind.
Does this sound like you?
Do you have other assets and income available?
If so, relying on a ‘secure’ and regular income in the form of ‘safeguarded’ benefits from a defined benefit pension probably doesn’t mean that much.
By making a pension transfer larger amounts can be taken when necessary, or nothing can be taken if there is no requirement to do so.
This allows funds to continue to potentially benefit from investment growth.
In short, the flexibility of taking income must be viewed in the balance of realistic income requirements.
This entails accurate cash flow modelling taking into account multiple scenarios.
Longevity risks (outliving your funds) or conversely Inheritance tax implications (if tranferred funds are used for ‘buy to let’ for example) are also important considerations.
Pension Transfers – Investment Opportunities
Numerous investment opportunities are available for those that choose to transfer their pensions from a Defined Benefit pension to a Defined Contribution pension, such as a SIPP.
It’s common for advisors to propose suitable destinations for transferred pension funds but it’s imperative to have regular reviews to ensure your investment objectives are being met.
An often understated risk is the impact of charges. As well as ongoing advisor fees there will be platform charges, transaction charges and of course fund manager charges.
These all erode overall returns and must be given appropriate prominence when assessing the proposed destination of transferred pension funds.
Increasingly, poor practices such as charging for ‘active’ management of portfolios (when models are just on ‘tracker’ funds) and levelling ‘platform’ charges unecessarily will be phased out.
The biggest change will be ‘banning’ contingent charging but that’s gradually being phased in by ‘free’ or ‘partially funded’ advice provided by ‘ceding schemes’ or ex-employers (with all the associated ‘conflicts of interest’ that brings!)
Pension Tranfers – SCAM ALERT!
Above all else do not become the victim of a pension scam!
Again, this has been an unfortunate consequence of the pension transfer landscape.
And it’s not just toxic investments (such as teak forestry and car parking spaces that have blighted the SIPP provider market).
There have also been numerous scams involving discretionary fund managers, trustees of pensions, investment managers, advisors and illiquid investments.
The level of scams will increase as the legal frameworks that exist encourage such abuse.
Do you feel you have been the victim of a pension scam?
If so, contact us to let us know who they are and we can set the dog on them!
Alternatively, use the regulator’s SCAMSMART service to keep up-to-date.
In summary, a pension transfer is one of the most important financial decisions you will make. Whilst there are robust regulatory protections in place it’s imperative to get ‘suitable’ advice.
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