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Pension Freedom: To Trust Or Not To Trust

Pension Freedom: To Trust Or Not To Trust

A number of new pension flexibilities were introduced on 6 April this year. The majority of these are purely in respect of defined contribution (DC) or money purchase arrangements - allowing members to utilise a new flexi-access drawdown regime, make unlimited lump sum withdrawals, and purchase tailored annuity products to suit their personal circumstances.

But the new flexibilities also have potentially significant implications for defined benefit (DB) or final salary schemes: for example, if members seek to transfer their benefits to a DC arrangement in order to take advantage of the options now available to them, or seek to apply the new DC flexibilities to their AVCs within a DB scheme. 

If a DB arrangement provides for AVCs, trustees will need to consider whether the new DC flexibilities will be made available to members in respect of those benefits.  DB trustees should also consider how transfer requests may impact their scheme, whether any changes need to be made (for example, to allow partial transfers or non-statutory transfers if not already available) and, in particular, how they want to communicate with members about their options.

So far, we are seeing trustee boards take very different approaches to communication.
On the one hand, some trustee boards are comfortable adopting the Pensions Minister’s stance on the new flexibilities; he recently confirmed that the Government wants “to see people trusted with their own money wherever possible.” Trustees in this camp take the view that members can make up their own mind about how best to take their benefits, once all the relevant facts and options have been provided to them. As well as providing flexibility for members, there are potential benefits for the scheme itself in allowing transfers to take place and giving members the ability to access their benefits on their terms. Some people will be better off transferring their benefits out of a DB arrangement – for example, those in poor health or who are single, or those worried about the security of the pension scheme.  Having a flexible benefit package can also help HR with employee engagement and retention, and employees’ transition to full retirement.  For the scheme itself, transfers out might result in reduced volatility to its funding position resulting from fewer members being provided for.

Trustees who take this view generally opt for full disclosure to the membership of the options now available to them – by issuing detailed announcements and notices, along with individual letters, advising members of the current value of their benefits and the flexibilities available on transfer. Some trustees also want to include a transfer value on members’ benefit statements (or on their online benefits page) and automatically send transfer value statements to members approaching retirement. There is no issue with doing this provided they are not promoting or persuading members to take a particular option.

Trustees are rightly concerned about the risk of complaints from members who decide to make a transfer or take flexible benefits to their detriment. However, trustees cannot protect members from their own (bad) decisions.

On the other hand, we have seen trustee boards take a much more cautious approach.  They are more hesitant to allow their scheme to provide the flexibilities and publicise them to their members. While legislation must be complied with, such trustees do not want to encourage members to make transfers, and are concerned about possible pension liberation, or complaints from members who do transfer and later realise they have exchanged their defined benefits for an inferior return.

The Pension Regulator’s view is that, for the majority of members, it will be in their best financial interests to remain in their DB scheme and some trustee boards legitimately feel that it is not for them to inform members of the flexibilities, where this information is already readily available elsewhere. The danger for trustees to avoid here, is adopting an approach that is too paternalistic, and actually standing in the way of members whose personal circumstances mean they would benefit from transferring to a DC arrangement. Such trustees should also seek to avoid providing anything that might constitute advice to members - transfer advice must be provided by an independent IFA.

  • What is clear is that there is no definitively correct approach to adopt at this stage. In reality, it is too soon to know what will result from the introduction of the new flexibilities, and from which direction problems may come. In the meantime however, there are a number of important steps for all DB trustees to take, regardless of their philosophy in relation to the flexibilities themselves:
  • Update transfer discharge wording to cover the new requirement to take IFA advice, and to ensure that it is robust enough to protect the trustees against future member complaints;
  • Consider whether partial, or non-statutory transfers should be permitted from the scheme. Such measures would allow members to make transfers within a year of normal retirement, or decide to compromise between the flexibility afforded by a transfer, and the (generally) better benefits available under the DB scheme;
  • Consider what communications should be provided to members, both in response to the new flexibilities, and generally for members approaching retirement;
  • If the scheme has money purchase AVCs, consider what flexibilities should be permitted in respect of these, and what new disclosure of information requirements are applicable to these benefits;
  • Update scheme rules to reflect the fact that a member must be permitted to transfer their AVCs separately from their DB benefits (and must be allowed continued accrual in the benefit which is not transferred); and
  • Monitor ongoing transfer requests and the impact that these have on the scheme’s funding position, and make necessary changes to scheme investments to reflect this.  Discussions with the scheme employer may also be necessary.

If you would like any assistance with issues raised in this blog, or the new flexibilities generally, please get in touch with a member of our team.

Liam Young