There is no doubt that the introduction of pension freedoms by former chancellor George Osborne has created a sea change in the level of demand for final salary pension transfers. The question is whether this should be something to celebrate or a cause for concern.
In its recent guidance note the FCA specifically made the point that assessing transfers based solely on critical yield does not meet regulatory expectations. Critical yield is, of course, an important factor, but just one of many. In practice it always comes down to the individual. Any bland assumption that giving up the security of a fixed pension for life is automatically a bad thing misses the point and could breach the requirement for "treating customers fairly".
People's needs and objectives, as well as their financial circumstances, can vary widely. It may be a bad thing for a lot of people, but for others it will be a good thing.
Although someone with a cautious attitude to risk is unlikely to be a suitable candidate for transfer there are even exceptions to that, for example where the key objective is to improve the benefits for their beneficiaries. This would be particularly relevant where the member is in poor health, with a limited life expectancy. Most schemes only provide 50 per cent of the member’s pension on premature death, which represents a major loss of value to the survivor.
The size of the transfer value may also be irrelevant. Someone with a modest final salary benefit, relative to their overall wealth, might well be better to transfer even if the transfer offered does not represent great value for money (as measured by the critical yield).
For larger cases with wealthy customers, death benefits are also often the key issue due to the change in the tax treatment of pension death benefits. There are situations where transferring to a personal pension with a view to growing the fund to pass down to family on a second death can form a vital part of a wider estate planning strategy. In effect clients can have two estates, their personal estate and their pension estate and it may be more tax efficient to spend down their personal estate consisting of cash and investments and preserve their pension estate if there is a prospective inheritance tax (IHT) liability.
Drawing down more from other capital resources will also save income tax and preserve a higher proportion of their overall assets in a tax-exempt environment, while also reducing their taxable estate and IHT exposure. For many well-off retirees, the idea of passing down pension pots to children or grandchildren is often attractive as their heirs are unlikely to have such valuable pension rights themselves.
In other cases the flexibility to vary the pension income level in retirement is more important than a secure fixed pension. This may be relating to income tax planning or simply cash flow management, for example someone whose pattern of expenditure requires a higher income for a period of years, such as the need to meet ongoing education costs for children, or to supplement variable ongoing earnings.
