New rules from the Financial Conduct Authority (FCA) on pension transfer advice will bring about a significant change in the conversations between scheme members and their advisers, according to a joint policy paper from consultant Lane Clark & Peacock (LCP) and mutual insurer Royal London.
Since 1 October 2018, financial advisers have had to show their clients how the transfer value they have been offered by their company pension scheme compares with a ‘transfer value comparator’ (TVC) – an estimate of the lump sum needed today to buy an equivalent pension at retirement to the one being given up. The two figures will be shown in the form of a bar chart, with the TVC figure almost always being the higher of the two.
A key finding of the paper, What will the FCA’s new rules mean for DB to DC pension transfers?, is that, for members 10 years away from retirement, the transfer value on offer will on average only be around 55% of the ‘full value’ of the pension given up, according to the FCA methodology.
LCP partner Jonathan Camfield said: “Our research shows people 10 years ahead of retirement who are considering transferring out of a company pension will typically be told they are giving up around half of the ‘full value’ of their pension.
“This does not necessarily mean transferring is a bad idea, but it does show very clearly that those who transfer out are forgoing a great deal of certainty about their future retirement income and this certainty is of considerable value.”
The paper also indicated the range of transfer values offered by different schemes was very large – with some schemes offering transfer values as little as 40% of the ‘full value’, and others offering transfer values of more than 80% of the ‘full value’. “There are good reasons for this,” said Camfield, “but it may come as a surprise to some members of schemes.”
For members within a year of retirement, the research suggested, the transfer value on offer will typically be higher, with an average transfer value being around 75% of the ‘full value’ of the pension given up.
“As well as typically increasing as members become older, the generosity of transfer values are likely to drift up over time – other things being equal,” said Camfield. “This is because most occupational pension schemes are gradually changing their investment mix towards lower-risk and lower-return assets. This makes it more expensive to provide pension benefits and therefore increases the amount schemes are willing to pay someone who is prepared to transfer out.”
Financial advisers surveyed by Royal London were generally in favour of this new method of talking to clients about whether transfers are a good idea, with most agreeing a comparison between two lump-sum figures was easier to understand than the old concept of a ‘critical yield’, which was often used in advice conversations.
Royal London director of policy Steve Webb said: “Although telling a client they are being offered only 55% of the ‘true’ value of their pension could put some people off transferring, most advisers felt this would not have a major impact on the volume of transfers. It would however prompt advisers to have to explain more about the level of risk that those transferring would be taking on.”
The paper suggested this greater clarity about the relative ‘generosity’ of transfer values offered by different company pension schemes could cause trustees of those schemes to review their policy on transfer values.
“Schemes offering the most generous transfer values – relative to the new FCA benchmark – might ask themselves whether they needed to be as generous to those leaving the scheme, while those with the least generous transfer values might face pressure from members to increase the amount on offer,” said Webb.
“In addition, where a client has rights under more than one DB scheme, the relative generosity of the transfer value on offer from each scheme could be a factor used by advisers in deciding which transfer to prioritise.”