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Jamie Clark: The dangers of small pension transfers

The DWP’s proposals for automatic small pension pot transfers leave many questions unanswered.

Jamie Clark Scottish Life 2012

On 17 July, the Government set out its response to a consultation on how to deal with small pension pots under automatic enrolment. Once all the dust settles, this could fundamentally change the advised transfer market.

The fact is that people tend to move jobs every so often and leave small pension pots behind. And with automatic enrolment, the DWP estimates that a staggering 50 million small pots could be built up by 2050. Everyone agrees that something has to be done to solve this issue.

The Government has made it clear in its response that it favours the pot follows member option. Basically, this means that when someone moves jobs, any pension fund below a certain amount built up in the previous employer’s auto-enrolment scheme can be transferred to the new employer’s auto-enrolment scheme.

Crucially, these transfers would happen automatically and without advice.

There are, of course, many issues with this model but arguably the most controversial issues of all are:

  • What should the upper limit be for automatic transfers, and

  • What exactly is a ‘small’ pot?

To help answer the first question, the response document contains estimates of the number of dormant pension pots that could be built up where different limits are used.

For example, according the DWP, setting the limit at £2,000 would mean about 40 million dormant pots by 2050 while setting the limit at £20,000 would result in about 18 million dormant pots by 2050.

If the intention is to keep the number of dormant pension pots to a minimum – to the benefit of individuals – the higher the limit, the better. So it may be likely that the Government, consumer organisations and trade unions will be pushing for a higher limit. Pension providers and advisers on the other hand may push for a lower limit, so as to protect existing income streams.

The second question is perhaps more difficult to answer as there are many risks associated with transferring a pension pot automatically with absolutely no advice process in place.

For example, what if the new pension scheme has higher charges? What if the individual has made an ethical or religious investment choice that is not offered by the new scheme? There appears to be a general consensus that the lower the fund value, the lower the risks. And so there are calls to set the limit at something like £2,000.

But no matter what limits are decided, there will ultimately be ramifications for advisers.

While small pots could be automatically transferred without advice, people with larger pots may well be pointed towards financial advice. But if there is a system in place that allows them to automatically transfer their pension pots from job to job throughout their working life, they simply may not want to take advice or even think they need it.

The more cynical may say that, with the possible exceptions of consolidation at retirement and very large pension pots, if we are not careful, we could end up with a pension transfer market devoid of advice.

Jamie Clark is business development manager at Scottish Life

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Comments

There are 5 comments at the moment, we would love to hear your opinion too.

  1. David Trenner - Intelligent Pensions 6th August 2012 at 7:17 pm

    Spot on Jamie!

    Back in 2006 people leaving occupational pension schemes with more than 3 months but less than 24 months service became entitled to a transfer value which included the employer’s contributions, rather than just take a taxed refund of their own contributions.

    So you can take £1,000 less £200 tax = £800, or have a tv of £3,000 (assuming that the employer pays 6% and the employee 3%). This gives you £750 tax free cash plus a £2,250 fund. And yet my experience suggests that most people take the refund – and none of them can afford advice which might tell them not to!

  2. Wouldn’t a better idea be a database that logged each person’s pension pot, big or small, so that the individual, their adviser and any product provider could easily get a single view of that person’s retirement pot, wherever it happened to be held?

  3. Jon Dean - Consultant at Altus Ltd 7th August 2012 at 10:36 am

    Jamie, I agree with your point about consumer detriment should the transfer be to a scheme with higher charges. Clearly this is a tough one to solve, as the target auto-enrolment audience typically cannot afford up-front independent advice.

    As regards members with ethical investment preferences, however, I would see these individuals as quite well engaged with their pensions. The DWP has proposed an opt-out of automatic transfers similar to that on auto-enrolment, which I think would be sufficient to ensure the member can exercise their choices. These people will presumably feel strongly enough to opt out of their new employer’s scheme if it has no ethical investment funds, and make alternative arrangements.

  4. This from the company that churned millions from its pp’s into the retirement account.

    And actively trained it’s broker consultants to het IFAs to move clients pensions.
    Commission paid over 5 years with clawback!

    Makes me sick.

  5. the costs of a virtual database will be tiny compared to the “follow me” approach

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