Defined benefit members transferring out of their scheme to take advantage of freedom and choice may be wasting money on fees for flexibilities they are unlikely to use, according to a new report.
Plumping for higher-charging, advised self-invested personal pension schemes, which made up a significant proportion of the transfers facilitated by the administration arm of consultancy XPS Pensions, could mean smaller pots last around seven years less, according to projections.
Based on a range of scenarios involving transfer values of £230,000 and a less sophisticated investment strategy, the report also suggested that choosing a lower cost Sipp or mastertrust could give consumers a boost of £2,600 each year in income.
The report highlights the worrying level of fees being charged when individuals leave the typically well-governed environment of scheme membership. XPS Pensions called for employers to take greater care over the products in which transferring members end up.
If you’re a company looking at what your future pension strategy is now, absolutely one of the criteria is what happens at retirement
Mark Futcher, Barnett Waddingham
“It’s all about the right product for the right purpose,” said Alex Bates, a consultant at the company. “Based on the data we’ve analysed, we think a lot of people are paying for levels of sophistication that they never use.”
Transfers out of DB schemes have continued apace over 2018, with XPS Pensions projecting that payments from plans it administers will hit £920m by the end of the year, eclipsing last year’s £770m.
Various official bodies have estimated the volume of transfers across the UK at different levels. The Pensions Regulator recorded £14.3bn of transfers from DB to defined contribution in the year to March.
Given the scale of transfer activity and the potential for higher charging, XPS Pensions called on employers to take action, by providing education and support alongside transfer values, and making members aware of lower cost options.
You get what you pay for
The XPS Pensions projections are based on the assumption that money is invested in a portfolio of 70 per cent global equities and 30 per cent global bonds.
But Nathan Long, senior pension analyst at Hargreaves Lansdown, said this assumed that people investing in more expensive products were not taking any steps to improve their outcomes, for example by adopting a strategy that protects against market falls.
“If you pay more in charges, all things being equal you will run out of money sooner,” he said. “What we’re missing here is the investment returns.”
He added that many DB to DC transfers featuring in the study were probably not suitable anyway. The Financial Conduct Authority found last year that fewer than half of DB transfer advice processes are suitable.
The FCA has recommended that providers be required to set default investment pathways for non-advised drawdown customers to protect against consumers buying unsuitable products. But Long cautioned that these should focus on safe withdrawal rates as well as investment, and should not make it “too easy” to go into drawdown.
Employers must protect retiring members
Whether retirees are transferring DB benefits or accessing DC pots, there is now a clear onus on employers to think about retirement, said Barnett Waddingham’s head of workplace wealth Mark Futcher.
“If you’re a company looking at what your future pension strategy is now, absolutely one of the criteria is what happens at retirement,” he said. Employers could go to great expense providing good accumulation only to see the benefit frittered away by a poor choice of retirement product.
He lamented the fact that unsophisticated consumers were passing out of a “well-governed institutional low-cost environment” into a retail product with far less protection. Improvements to the system might see guidance challenging the choices made by employees, or further development of hybrid retirement solutions like those drawn up by mastertrust Nest and currently being developed by Smart Pension.
Employers looking to safeguard retiring staff could use either contract-based or trust-based solutions to do so as long as strong governance structures and low rates are available, he said, pointing out that innovation often reaches contract-based pensions first.
Would partial transfers help?
The XPS Pensions report also called for the provision of advice by the scheme or employer, as Luxfer Group did earlier this year, and for schemes to make partial transfers available.
Sankar Mahalingham, head of DB growth at XPS Pensions, said partial transfers would be the “best of both worlds”, making the decision to transfer less of a binary one.
Luxfer Group offers IFA to deferred members
Global materials technology company Luxfer Group has launched an exercise offering deferred members of its defined benefit scheme the opportunity to discuss their benefit options with an independent financial adviser.
He said it needed to be implemented carefully, but that by transferring out complex indexation arrangements and guaranteed minimum pensions, schemes could actually see their benefits simplified.
But Long disputed the ease with which partial transfers could be facilitated by administrators, and said that advisers struggle to decide which bits of benefit should be transferred. In future, retirees with only DB benefits will become increasingly rare, he added.
