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Accrual age

Last week, I noted the possible or probable abolition of the upper age

limit at which an annuity must be drawn and the certain abolition of the

upper age limit at which employees willbe required to retire.

Both these developments (or likely developments) have been prompted by a

European Union directive issued last year which requires member states to

outlaw compulsory retirement ages by no later than 2006.

In my last article, I briefly noted the effect this would have on

pensions. I would like to examine more closely the impact of this directive

on financial planning for clients.

This impact should be considered by financial advisers to be immediate as

although the directive might not come into force in this country until the

2006 – although there is speculation that we might comply some time before

that date – it is already certain it will affect all employed clients who

are due to reach retirement age at any time from that date onwards.

First, a look at pension planning. Many advisers now recommend to clients

contribution levels derived from the target benefits required by each

client at an assumed retirement age.

Where these clients are employees who are not due to reach the scheme&#39s

normal retirement age before 2006, the next discussion with the client

should include the likelihood that the client will want to, and be

financially able to, retire at the current accepted retirement age

(typically 65, of course).

Many clients might express a burning desire to retire as soon as possible

but others might prefer the increased flexibility of retirement age which

will soon be accorded to them. Only physical or mental incapacity to

perform jobs can justify compulsory retirement and many people will

continue to work well in to their 70s, 80s or even beyond.

As for retirement income options, possibly the most exciting development

would occur if the age 75 limit is removed. This would potentially remove

the requirement ever to move funds out of a pension fund or, indeed, out of

a pension drawdown arrangement.

Combine this with increasing life expectancy and it can be easily seen the

whole environment for retirement income options is destined to go through a

period of huge change.

This change should result in greater flexibility for almost everyone due

to reach what is currently set as a normal retirement age.

Perhaps the most obvious and far-reaching change on pension planning may

be forced upon final-salary schemes. The European directive on its own may

be sufficient to require schemes to continue granting accrual of pension

rights after what is currently the scheme&#39s normal retirement age. If Joe

Singer wins, this likelihood will turn into a certainty.

This would increase the funding rate for final-salary schemes massively

unless they reduce the accrual rate. Such a move would be very unpopular

with existing scheme members.

These schemes will be watching developments very closely indeed but if

accrual is not granted for employees beyond, say, 65 then this will,

without doubt, as far as I can see, constitute discrimination against older

people which contravenes the European directive and, more important, is

ill-egal under the provisions of the Human Rights Act.

Money-purchase scheme contributions by employers will also have to

continue as long as the employee is employed.

For many bigger employers, the pension scheme will not be the only

employee benefit which may need to be reviewed. Group risk schemes are set

for an even bigger shake-up.

As many employees will continue to work beyond the current normal

retirement age, any benefits granted to employees generally must also

continue. The most obvious benefits are life insurance and private medical

insurance, though, of course, it includes group PHI and group

critical-illness cover.

Again, as with pension contributions and benefits, the removal of such

benefits from employees over, say, 65 is illegal and so employers must

brace themselves for huge extra costs if they wish to maintain these group

risk schemes. The cost of providing cover to this ageing sector of the

workforce will be much greater than for younger employees.

It is hard to see how employers can get round this soon to be introduced

requirement and I strongly believe that, unfortunately, most of these group

risk schemes will become a relic of the past as the cost commitment by the

employer becomes unmanageable. If I am right, then this is once again an

example of legislation which is designed to help employees achieving

exactly the opposite.

What about the financial planning needs of individual clients? As we can

assume many people will work to a much greater age, I suggest advisers

should be starting to consider writing PHI contracts to, say, 70 or 75 as

opposed to the current normal retirement age.

I would hope PHI providers will quickly recognise this need and permit

these longer-dated contracts without question.

Advisers should be aware that this need to anticipate the removal of the

compulsory retirement age must be addressed now. PHI contracts written now

to the earlier age are likely to be difficult, if not impossible, to amend

when the European directive takes effect – insurers may fear selection

against the office. This could leave the client with a deficient PHI

contract if he or she anticipates working until a later age.

Similar considerations should be taken into account in age-restricted

critical-illness cover policies.

Finally, a small but amusing political prediction. State pensions are not

caught by the directive and so may still be paid from 65 or (as is

currently allowed) deferred until a later age, with an increase for each

year of deferral. This could lead to the payment of state pensions for many

years while an employee continues to work.

Can you hear the politicians suggest this “double payment” is unnecessary

and unwarranted? Perhaps the state pension should not be paid while the

individual is working as this would represent an embarrassment of riches.

So, defer the state pension until he or she needs it, perhaps.

But then, this would represent a shift towards making the state pension

means-tested, wouldn&#39t it? And that could never happen, could it?

Crystal ball gazing – election after this one 2005, European directive

introduced 2006 with deferred state pension payments at the same time.

Three or four years to the next election…plenty of time to forget.

More immediate and certain – next week we move on to the fundamental use

and misuse of trusts in financial planning.


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