In the last couple of years, transferring out of a defined benefit pension scheme has gone from the darkest of taboos to a favourite (if controversial) topic for wider discussion.
Fuelled by growing concerns over the adequacy of DB scheme funding, rocketing transfer values and the lure of defined contribution pension freedoms, the market is experiencing a surge in demand for advice in this complex area.
However, we have yet to see supply truly face up to the challenge, partly because many firms and their compliance departments still have memories of “pensions misselling” in the late 1980s and early 90s.
While the pensions world, and industry as a whole, has moved on since then, it has not been easy to tell whether the FCA has updated its expectations to reflect recent changes.
For those wary of second guessing future FCA decisions, its recent consultation paper (CP17/16) on advice when transferring “safeguarded rights”, including DB pensions, is good news.
The industry has been calling for the FCA to revisit “what good looks like” when advising on DB transfers post-pension freedoms. Starting with a presumption of unsuitability now seems unreasonably biased, and a transfer value analysis that produces a critical yield based on a replacement annuity is simply out of date. It is good to see the FCA agrees on both counts.
Make no bones about it, transferring out of a DB scheme is not right for everyone. If the individual is still accruing benefits, it is extremely unlikely to be a good deal, and giving up a guaranteed income for life is not a decision anyone should take lightly or without specialist advice.
But we are not meeting our customers’ needs as an industry if we are not able to offer that balanced advice. By delivering regulatory clarity, the FCA is enabling adviser firms to offer DB transfer advice with confidence.
While the regulator believes that, for most people, retaining their DB pension is in their best interests, it will no longer require the adviser to make an initial presumption that transferring is unsuitable. The adviser will still need to demonstrate the suitability of their advice, which will in future always include a personal recommendation.
Guidance will set out elements to consider. These include the client’s income needs (rather than wishes) and expectations, how safeguarded benefits can meet these, and the risks of transferring. The adviser must consider the receiving scheme they would recommend, the investment strategy based on the client’s risk profile, as well as charges.
Another key consideration is how and when the client will be accessing funds. Alternative lower risk ways of meeting objectives, such as providing death benefits, should also be assessed.
Transfer value dilemmas
One of the biggest changes is the replacement of TVA with a new appropriate pension transfer analysis. As a minimum, this should assess the client’s income needs throughout retirement, the role of the ceding and receiving schemes in meeting these alongside other income sources, and death benefit considerations.
There is also a new transfer value comparison diagram, which will compare the transfer value on offer with an estimate of the cost of replacing the pension being given up through an annuity, either immediately or from ceding scheme retirement age.
Rather than producing a critical yield, the client will be able to assess the “adequacy” of the transfer value by comparing this with the cost of replacement, shown in pounds and pence. I agree with the FCA’s belief this will be more helpful for those deciding whether or not to transfer.
These new rules will increase the number of DB transfers, primarily because they provide some long overdue clarification of FCA expectations, which should give more firms the confidence to advise in this market. Meanwhile, the new APTA will give more clients confidence in their adviser’s decisions. I would also like to think that greater clarity will reduce professional indemnity insurer costs as well.
An environment where more individuals can access appropriate advice, and receive a better understanding of the pros and cons of transferring, has to be a good outcome.
Steven Cameron is pensions director at Aegon UK