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Pensions and retirement planning

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TPR gets its wings clipped

John Housden

The scope of The Pension Regulator’s (TPR’s) powers has been examined in the Supreme Court, as the fallout from the collapse of Lehman Brothers continues.

TPR has two key enforcement weapons in its armoury. The first is the Financial Support Direction (FSD), under which TPR requires an interested party to put forward proposals to provide support for a scheme (not necessarily in the form of cash), and the second is the Contributions Notice (CN), which allows TPR to demand a cash payment to a pension scheme from an interested party. The CN is the ‘nuclear’ option of last resort, and as of April 2013 only one had ever been issued.

In 2009 TPR started proceedings to issue FSDs in respect of Lehman Brothers and Nortel, two major employers that had entered insolvent administration. Legal action by the administrators then stopped the FSDs being issued.

The administrators wanted the courts to decide where TPR’s FSD would rank in the insolvency proceedings if it were issued. Three possible options existed: the FSD would rank as an expense of administration, a provable debt, or an unprovable debt (thereby disappearing into a ‘black hole’ −  the administrators’ preference). Both the High Court and the Court of Appeal said an FSD would be an administration expense, a decision that would have left little, if anything, for those with provable debts.

In late July, the Supreme Court determined that an FSD was a provable debt. The judgment was welcomed by many insolvency professionals who been concerned about TPR being placed in a position to trump all unsecured creditors. Some finance experts had suggested that an unchanged verdict could have made it more difficult for companies with defined benefit schemes to obtain finance.

Curiously, TPR was also among those who “welcomed” the Supreme Court’s judgment. The earlier rulings had actually left TPR in something of a bind. On the one hand, the original ruling had given TPR an incentive to wait for administration so it could jump to the front of the queue.

On the other hand, the law requires the regulator to act “reasonably” and to take account of the interests of parties “directly affected” by its actions.

www.supremecourt.gov.uk/decided-cases/docs/UKSC_2011_0259_Judgment.pdf

www.thepensionsregulator.gov.uk/press/pn13-27.aspx

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Income drawdown on the up

Andrew Tully − Pensions Technical Director, MGM Advantage

Income drawdown is a valuable tool for advisers and clients, but it has had a tough couple of years, with sales falling and regular negative media coverage. Happily, however, the outlook is now more positive. Drawdown has been boosted by the Government’s decision to reverse income to the old 120% level, reasonably healthy investment markets and low annuity rates.

But while drawdown is suitable in some situations it does have weaknesses −  a key one being the increasing risk capped drawdown customers face as they move through their 70s.

So it is important that people consider when and how they will leave drawdown, which is where investment-linked annuities can be very useful. They allow people to maintain the investment exposure and income flexibility they have been used to, while also taking declining health into account and reducing risk by benefitting from the cross-subsidy available within an annuity.

Investment-linked annuities offer people a flexible changeable income, in a similar way to drawdown. Maximum income for a healthy individual is broadly similar to drawdown. But annuities can also take health and lifestyle into account, which means the many people whose health deteriorates during their time in drawdown can get a significantly higher income from an investment-linked annuity.

In addition, one of the key benefits of an annuity, mortality cross-subsidy, has an increasing importance as people grow older. On death any remaining fund −  after death benefits are paid −  is pooled for the benefit of other annuitants. This is why annuities can pay out a guaranteed income even when someone lives beyond their expected lifespan.

With investment-linked annuities, the benefits of the mortality cross-subsidy are built into the product as yearly bonuses, and this allows customers to reduce their dependency on investment returns.

For example, if we assume an income drawdown customer would need a 6% yearly investment return to maintain their income, an investment-linked annuity would only need a return of around 4% for someone who entered the contract at 70 and lived to 85. For someone entering at 75 and living to 90 the difference is even more stark, with only a 2.5% investment return required −  as the cross-subsidy ‘makes up’ the difference.

Income drawdown can be hugely beneficial for some clients. But it is unlikely to be a suitable contract for the majority of older customers. An investment-linked annuity can offer much of the same flexibility as drawdown while also offering a higher maximum income to the many who are suffering from some impairment. And, crucially, the benefit of cross-subsidy can greatly reduce the investment risk for these older clients.

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