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How to demonstrate DB transfer suitability

With regulatory pressure growing, advice firms need to remain vigilant

It is the most complex and high-risk financial advice you can give, and it can result in serious and irreversible consequences for clients. So it is no wonder the bar is set so high for advisers to demonstrate the suitability of any recommendation to transfer out of a defined benefit pension scheme.

Yet, alarmingly, the FCA’s review at the end of last year deemed less than half of DB transfer advice suitable, in stark contrast to the 90 per cent suitability of more general investment and pensions advice.

With pressure from the regulator and a steady interest in transferring out of DB schemes, firms must be vigilant. Here, I outline some of the most common failings and what advisers can do to rectify them.

Detailed analysis of retirement income needs
Too often, advisers fall back on unconvincing, generic objectives to justify the answers they think the client wants to hear. But failing to properly challenge the client’s objectives risks the adviser’s recommendations not standing up to scrutiny. And this could prove an expensive mistake.

Advisers must ensure they have sufficient information to be clear on a client’s current and future needs, as well as having a good grasp of their financial circumstances – especially their expenditure. For example, if a client expects his or her expenditure to be dramatically lower in retirement, you need to ascertain how credible that is. Where are the reductions going to come from?

If your client is yet to decide when to retire, or what their income needs might be, then in most cases it is too early to be considering a DB transfer.

If there is an urgent, overriding objective meaning the transfer needs to happen now, your advice must demonstrate all alternative courses of action that could meet this objective have been seriously investigated and considered. This is the level of detail advisers must arm themselves with.

Take account of clients’ attitude to transfer risk
There is now specific guidance in the FCA’s Conduct of Business Sourcebook about the need to assess clients’ attitude to transfer risk, as well as investment risk.

The regulator added this guidance in response to its findings that many advisers do not appear to take sufficient account of transfer risk when making recommendations.

Because transfer risk is not addressed by most risk-profiling tools, advisers need to demonstrate they are also considering it, and that it is factored into the final recommendation. This can be achieved by developing a bespoke client questionnaire. It is not enough for firms to add a standard sentence into their suitability report template that says something like: “Flexibility of income and death benefits is a higher priority for you than certainty and security of retirement income.”

Highlighting extra costs
Similarly, advisers sometimes fail to highlight extra ongoing costs resulting from a DB transfer or consider how clients feel about them. The extra flexibility afforded by a transfer comes at a price – specifically, the cost of ongoing advice and the management of investments. These costs often continue for the rest of the client’s life. This is particularly pertinent for inexperienced investors who have no significant assets apart from their pension and home.

Finally, we still see cases where a client’s attitude to risk casts doubt on the wisdom of the recommendation to transfer.

If the client has no investment experience and a relatively cautious attitude to risk, recommending a transfer usually makes no sense.

Providing balanced information in your suitability report
Whether consciously or otherwise, some advisers are guilty of a lack of balance when discussing the relative merits of a DB scheme and a solution offering flexible benefits in the suitability report.

In our experience, this is more likely when the adviser feels the need to bolster the rationale for the recommendation, perhaps because the client’s objectives for transferring are vague or unconvincing.

Two of the most common biases we see include downplaying the value of the protection from the Pension Protection Fund in the event of failure, and exaggerating the extent to which the proposed solution’s potential death benefits are superior to those from the DB scheme.

Most of the common failings that lead to poor-quality DB transfer advice are covered above. But the most unsuitable cases we have reviewed include generic and flimsy objectives, involving flexibility of income and death benefits for inexperienced clients of modest means, whose main priority should be security of retirement income.

These are the cases that put firms and advisers at most risk of regulatory action and crippling redress payments.

Neil Walkling is managing consultant at Bovill


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There is one comment at the moment, we would love to hear your opinion too.

  1. All of this is sensible but probably of little significance in the light of the FCA’s edict that the cost to the client of transferring in terms of the benefit given up must be clearly expressed. The last two cases referred to me showed the cost of transferring, expressed as per the FCA’s latest strictures, were £150,000 and nearly £400,000. Not much room for manoeuvre there.

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