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David Newgrosh contributed to the writing of this blog post.
It is hardly surprising that defined benefit (DB) schemes are now seeing such a large volume of transfer value requests.
The freedom and choice legislation introduced in April 2015 offered members of DB schemes greater flexibility in how they draw their benefits - including taking their entire pension as a cash lump sum - provided they first transfer to a suitable defined contribution (DC) arrangement. However, is this interest leading to a greater take-up in transfer values, which can help employers de-risk their scheme, or is it simply increasing the administration costs associated with running a DB scheme? We also look at what employers might do to ensure they are realising the benefit of this increased interest in transfer values.
The Association of Consulting Actuaries (ACA) recently published its second interim report of this year's ACA Pension Trends Survey. The survey was conducted over the summer and received responses from 182 employers with a DB scheme. The survey illustrates how transfer value requests have reached a significant level, with 47% of employers with a DB scheme reporting that the incidence of transfer value requests is greater than 5% of scheme members, and 15% of employers reporting that the incidence is greater than 10%. However, as expected, completed transfers are at a lower level, with only 16% of employers reporting completed transfer requests greater than 5% of scheme members.
"61% of employers saying that members are having difficulty finding advisers who are prepared to advise on transfer values ."
We would expect the number of completed transfers to be lower than the number of transfer requests, as some members may simply request a transfer value out of interest or curiosity and fail to follow through. However, another factor may be the inability of members to access the suitable financial advice needed for them to make an informed decision and obtain the necessary certification required to allow a transfer to proceed. This is backed up by the survey, with 61% of employers saying that members are having difficulty finding advisers who are prepared to advise on transfer values. Again, this is unsurprising given the complex nature of DB pensions and the increase in demand for this type of advice.
These findings should be a concern to employers with DB schemes. From an employer's perspective, a member transferring out of a DB scheme is almost always seen as a positive move, as it removes risk from the scheme (relating to future investment returns, inflation and longevity), reduces future administration expenses, and will generally improve the funding level on the funding basis, and certainly the buy-out cost. However, the worst case scenario for employers would be a situation where many members request transfer values but relatively few actually transfer, as this would place a large burden on scheme administration with little payoff. Indeed, the survey found that transfer value activity is adding between 10-20% to scheme administration costs compared to previous years.
It is important that members considering a transfer value receive suitable financial advice. Without proper advice, which appears to be a concern at the moment, members risk making poor decisions which are inappropriate for their needs, which could lead to future claims of mis-selling or members even becoming victims of pension scams.
The survey notes that, not only are many IFAs not prepared to provide advice on transfer values, but those who do often ask varied and time consuming questions of scheme administrators, thereby increasing administration costs. Employers might therefore consider appointing an IFA firm that could be highlighted to members, with a standardised approach to help save on administration costs. Employers might even consider meeting the cost of financial advice in part or in full themselves, as this might encourage more members to engage in the opportunities presented by taking a transfer, reducing risk and costs for the employer in the long term. A further option would be to allow partial transfers, enabling members to retain some guaranteed income within their DB scheme, whilst transferring some benefits to a DC scheme to enjoy greater flexibility.
If you would like to discuss or find out more information on the topics raised in this blog, get in touch with Nick Griggs.