With DB transfer activity at very high levels amid fraud concerns, Michael Klimes asks if partial transfers can offer more security for members
Defined benefit (DB) transfers have been one of the most written about topics since Freedom and Choice started in April 2015. The potential loss of a member's entire life savings if a transfer goes wrong has gained the attention of regulators.
The Financial Conduct Authority (FCA) published guidance on 24 January for independent financial advisers (IFAs), which said: "Transferring pension benefits is usually irreversible. The merits or otherwise of the transfer may only become apparent years into the future."
There is an argument that one of reasons why transfers are "irreversible" is the choice that members face is binary: they either transfer all of the money from a pension scheme or leave it where it is.
Partial transfers could be a potential solution to what many see as an inflexible system. There are two questions to answer. Firstly, what are the technical obstacles to partial transfers? Secondly, do the advantages of partial transfers for members and schemes outweigh the disadvantages?
Hargreaves Lansdown senior pension analyst Nathan Long who used to work on full transfers thinks much depends on solid administration. "One thing that would help is if the data coming out from schemes was standardised. In the past I've probably done over a thousand cases where I did the transfer analysis. Sometimes I would get information from a final salary scheme transfer.
"I would look at the data and think 'this is just not right'. The IFA would then write back to the scheme to get the right information, which can take an inordinate amount of time. I think the administrative standards of final salary pension schemes have not always been great. The fact it is so labour intensive to get information is one of the reasons why the cost of providing advice for transfers is so high."
First Actuarial founder Hilary Salt (pictured above) gives two other reasons for the lack of partial transfers. Firstly, that scheme rules do not permit them, and secondly that DB trustees are still adjusting to the demands for transfers arising from Freedom and Choice.
However, schemes can change their rules easily and time will help them adjust to transfer demand, she adds.
Good for members?
For Salt the administrative capacity to do partial transfers is there. The more interesting question is whether they are beneficial for the individual member, scheme and society as a whole. The answer is not clear cut. "DB schemes are meant to be collective forms of provision for retirement. The more you individualise them, the more they tend to break down.
"The government and society more widely have a stake in what happens to them. The Department for Work and Pensions' (DWP) research indicates the biggest form of private income for pensions will be income from DB schemes by 2040."
One guiding principle about whether a partial transfer is a good idea or not for a member depends on their life circumstances, she continues.
Pensions Policy Institute head of policy research Daniela Silcock agrees with Salt. She points out the average receipt from a DB pension in 2014/15 was around £148 per week or £7,696 per year according to DWP's June 2016 Pensioners' Incomes Series: An analysis of trends in Pensioner Incomes: 1994/95-2014/15.
The way the £7,696 is viewed in a partial transfer can vary from person to person. "Whether £7,696 is a large pension or a small one will depend on many individual factors. For a person with a large portfolio of savings and assets it may seem like a less than significant sum, but for someone who has very little other savings or pensions to depend on, it could almost double their pension income in retirement (when added to the state pension of around £8,000 per year)," she says.
"For those on low incomes a DB pension at this level could make a substantial difference to their quality of life in retirement, particularly because DB payments are guaranteed for life and are inflated in line with prices."
Clearly individuals have to ask themselves whether a transfer makes sense.
Good for schemes?
Royal London policy director Sir Steve Webb believes partial transfers also make sense for schemes as they could reduce liabilities. "We know schemes will often do incentivised transfer exercises to reduce their liabilities and in a way this is pretty similar [partial transfers]. You offer someone cash for their claims on the scheme. So if some schemes are actively pursuing this it is probably worthwhile for many of them."
Furthermore, Webb observes other areas of pension administration have potentially laid the groundwork for partial transfers. "I think data quality is improving with the end of contracting out and guaranteed pension equalisation as many schemes are putting effort into reconciling their data. This will help but there is no doubt schemes will have to put resources into this in order for it to work."
To get around overly complex administrative work, schemes could put in a de minimis amount for partial transfers to avoid being flooded with requests, Webb adds.
Ultimately Webb argues partial transfers are a no brainer as the experience of transfers for schemes and members is "a very long drawn out process at the minute".
Spence and Partners head of corporate advisory services Richard Smith says partial transfers are a balancing act for scheme trustees. Like members they have to do a cost benefit analysis.
Trustees have to consider the number of individuals that may want to transfer out against the scheme's overall funding position. "Trustees have to decide how members wanting to stay in the scheme and those wanting to leave affect the balance sheet of the scheme. There is always a relationship between assets and liabilities."
However, Smith believes that risk should be mitigated by the advice trustees receive when they meet their actuary. There is no reason why partial transfers should present more of a challenge to the sustainability of a scheme compared to other pressures. Nonetheless some schemes will handle the additional administrative complexity better than others. "For some schemes this will be viewed as too costly and too difficult."
Pensions Administration Standards Association chairwoman Margaret Snowdon agrees: "The administration burden when it comes to partial transfers is very scheme specific. The way splits occur when it comes to transfers, either full or partial, is rarely even on a scheme's balance sheet. In certain cases partial transfers could be more of a hassle than a full transfer. The scheme would still have to keep the record of that member. That could lead to a greater chance of error in record keeping."
Prudential director of specialist business support Vince Smith-Hughes emphasises that it is context that determines whether any type of transfer is appropriate for a scheme or member. "I am for partial transfers as I think they can be sensible for many people. Allowing people to have a mixture of secure and flexible income does make sense for those who can afford it. But IFAs and anyone involved in the transfer must ensure they are safe. Similarly they could also be good for schemes but it depends on a scheme's funding level and if the trustees want to shed liabilities or retain assets."
The debate around partial transfers is not one where a one-size-fits-all solution can be found. A lot of the time members are very different from others, and schemes come in all shapes and sizes. Trustees running one scheme could have different goals from trustees in charge of a different scheme.
It is clear those who make the decision on partial transfers have to exercise sound judgement, which applies equally to trustees and members. Judgement is determined by the context in which it is made.
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