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Gregg McClymont: Heed the DB transfer warning signs

Defined benefit transfers are big business, but advisers do not have to look too far back into the past for a cautionary tale

Gregg-McClymont-NAPF-Conference-700.jpgWith the dust settling on last week’s general election, pensions have never had a higher political profile. Yet one big issue went undiscussed by the politicians: defined benefit transfers. This is surprising. After all, not a week goes by without news of another FCA intervention in adviser firm permissions to undertake DB to defined contribution transfers.

The rise in transfer value requests, and DB transfers completed, is much talked about across the industry. The topic has also crossed over into the mainstream. Comparing DB transfer value quotes has replaced house price rises as the subject of polite dinner party conversation. DB transfers are big business. Pensions freedoms, lower for longer gilt yields and the concentration of wealth assets among baby boomers have driven this growing interest.

There are circumstances in which a transfer might make sense – even if one wonders whether attitudes would be different if the net present value of the DB promise was always quoted alongside the transfer value offered. What the future holds in this market no one knows. But one does not have to look too far back into the past for a cautionary tale. A story with which many advisers are very familiar. Namely, the mid-to-late 1980s reforms which enabled employees to opt out of DB schemes in favour of personal pensions, and which culminated in huge payments to redress misselling.

Opening the floodgates

“Freedom” to do what you want with “your money” then, as now, was the dominant theme. As early as 1983 the Thatcher government indicated its mission of enlarging the scope of personal freedom and individual responsibility encompassed pensions. The government was giving notice it had compulsory membership of DB pensions schemes, where individual ownership rights were attenuated, in its sights.

But it was not until the Social Security Act of 1986 that the law was changed. The Financial Times  sounded a warning note, which was eerily familiar: “If an individual loses his savings from bad advice it is a tragedy. If he loses his pensions saving it is an unmitigated disaster.”

But the train had left the station and the rise of personal pensions was picking up a full head of steam. Within three years, by May 1989, over 2.5 million personal pensions were sold. By August of that year, the number sold was 3.5 million, as members fled guaranteed company DB schemes and the state additional pension systems, Serps.

Time for the FCA to be honest on DB transfers

Projected investment returns from personal pensions were high (markets had been good) and inflation projections low (the high inflation of the 1970s had been left behind). What could possibly go wrong? Within six months, in early 1990, reports began to emerge suggesting one million transfers out of Serps into personal pensions were based on unrealistic return assumptions, while the same year fears about unnecessary churning of newly created personal pensions portfolios to generate commissions emerged.

Pressure continued to build until 1993 when the regulator, the Securities and Investment Board, announced its decision to review (in the first instance) half a million transfers from DB to personal pensions. At that stage, the talk was of a compensation bill running into hundreds of millions of pounds, which seemed a lot.

 The final cost snowballed 

The rest of the story is well known. By the time the final dribs and drabs were paid in the early to mid-noughties, the final cost, including the review itself and fines levied on those who delayed paying redress, had snowballed – topping £11bn. Public attitudes to the pensions industry changed. Mistrust grew and remains a legacy issue long after the industry cleaned up its act.

Hindsight is a wonderful thing but, even at the time, voices in the industry had expressed misgivings about the policy. As early as 1984 in evidence to parliament, The Society of Pensions Consultants (now the SPP) noted personal pensions plans were “unlikely to be a ‘wise choice’ for individuals” because “given choice and lack of understanding, many individuals could make decisions they might live to regret”.

The regulatory environment is very different now. The quality of advice is much higher and the RDR has removed many conflicts. DB transfers can make sense for individuals in certain circumstances. But if problems emerge in DB transfer land, you can be sure the Government will look for others to hold to account: just as in the 1990s when the industry carried the can for what was a policy and regulatory failure. After all, history rarely repeats itself, but it does rhyme.

Gregg McClymont is head of retirement at Aberdeen Asset Management


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Intelligent Pensions agrees with FCA to suspend DB transfer business

Intelligent Pensions has agreed with the FCA to suspend offering advice on defined benefit pension transfers. A note published on the FCA register says Intelligent Pensions must “immediately cease to provide advice in relation to the transfer, or conversion, of safeguarded benefits under a pension scheme to flexible benefits.” As of this morning, the company […]


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There are 3 comments at the moment, we would love to hear your opinion too.

  1. To be honest Greg, the only real comparison is that it was DB pensions before and DB pensions now. Beyond that the comparison seems rather absurd.

    The main reason why the pension review quite rightly happened, and which was entirely predictable. Was the loss of the employer contribution. i.e free money being given up. The vast majority of the make up of the compensation payments was because of those lost contributions, which were in many cases significantly above the personal contributions. Transferring out of a paid up DB arrangement includes no such loss or potential loss.

    Now we are in the situation where the only potential reasons that someone may end up “worse off” by transferring out, is either because they live a lot longer than expected (which some undoubtedly will), or because the investment returns they achieve will be worse than needed to provide a comparison to the DB scheme.

    As such any advice has to be focused around what the client wants to achieve, and what risks the client is both happy to accept and can also afford to take.

    Assuming that the conversations are balanced and documented, assuming that the clients desire and ability to shoulder risk is properly discussed and documented, there is no foreseeable systemic risk issue like there was with the pension review.

    The only issue, is the adviser not discussing things properly, not documenting things properly and not being prepared to say no to clients where appropriate.

    Allowing the client to take on risk for the potential of a better “return” is not a bad thing, as long as the client knows what they are getting into and can afford to do so..

    • So, apart from any advice covering what the client wants to achieve, correctly assessing the client’s risk appetite, assessing affordability, having a balanced and documented discussion, and the client not disputing any of this later on, what could possibly go wrong?

      Seriously, how many clients are truly capable of understanding the risks involved in these complex decisions? When the markets have tanked next year or the year after and hordes of clients and media are baying for blood and redress, who do you think is going to pay it and take the blame? The FCA? Politicians?

      The FCA are already clamping down on firms (54?) giving this advice. If nothing else that hints at a systemic issue and there’s nothing better for the FCA than being able to point to their actions and comments and saying “you were warned”.

      • Whilst DB pensions are complicated, understanding whether one may be suitable to you or not, isn’t necessarily so. It “depends”. Ultimately it’s a question of certainty, vs uncertainty with potential. It’s not a very difficult concept to understand if the adviser explains it and documents it well.

        Our perspective is very simple (and I speak as a compliance officer). What are the clients needs and goals? If their needs and goals show that defined benefits are the best option or are likely the best option, we won’t even consider reviewing the scheme.

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