pensions: nirvana or nightmare? - bovill briefing
TRANSCRIPT
2
Agenda – pension freedoms
1. Background and context
2. Overview of the pension freedoms
3. Implications for professional advice market
4. Suitability considerations
5. Controls over advice quality and reducing risks
of poor outcomes
6. Key messages
4
Government pension reform agenda
Flat rate state
pension
Auto
enrolment
Rising
state
pension
age
Charge caps
and
governance
Freedom
and
choice
6
Defined benefit schemes
Example (public sector)
Teacher 40yrs service, final salary £50k
Scheme pension at NRD = 40/80 x £50k = £25k (taxable at marginal rate)
Escalates at CPI up to 2.5%
Dependant’s pension
Pension Commencement Lump Sum (PCLS) = (40 x 3/80) x £50k = £75k tax-free
Generous secure benefits, but tend to be inflexible
Pension freedoms don’t apply to
DB schemes
Transfer to DC scheme (private
sector DB only)
Regulated advice required for
transfer above £30k
Trivial commutation up to £30k
(25% tax free)
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Options for DC funds from age 55
Do nothing Secure income
PCLS only
Flexible income
Take the money
Or some combination of the above options
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Use fund to purchase secure income for life
Existing annuity options
Level income
Escalating income (fixed,
index-linked)
Investment linked (UL, WP)
Max 10yr guarantee
Dependant’s annuity
Annuity protection
New annuity options
Income can reduce
No max guarantee period
Beneficiary other than
dependant
Tax-free PCLS 25%, plus income taxed at marginal rate from remaining 75% of fund
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Annuities – value for money?
Scenario
Age 65, good health
£500K fund
£125k PCLS leaves £375k for annuity
Single life – no dependant’s pension
No guarantee period
Male 65
83
Quote 2
Inflation
linked
A: £23,323
B: £18,468
C: £20,198
A: £15,218
B: £11,933
C: £13,625
Quote 1
Level
annuity
Female 65
86
Expected age of death (England)
Level annuity
£363564
Level annuity
£424158
RPI @ 3%
£279404
RPI @ 3%
£342158
If client lives 7yrs longer than average
Level annuity
£504875
1.2% pa gross
Level annuity
£565544
2.0% pa gross
RPI @ 3%
£435068
0.6% pa gross
RPI @ 3%
£512295
1.1% pa gross
Gross: before income tax at marginal rate
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Leave fund invested: drawdown pension
Capped drawdown limit
100% 120% 150%
of equivalent GAD annuity rate
Subject to regular review
Before April 2015 After April 2015
Scrapped
existing plans can continue
or convert to flexi-access
Flexible drawdown – no cap on income
Min secured pension income
£20k £12k
Flexi-access drawdown
No min income requirement
PCLS only: take 25% tax-free from fund and leave the rest invested
up-front PCLS 25%: drawdown income taxed at marginal rate
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Take the cash (UFPLS)
Before April 2015 After April 2015
Trivial commutation if
your total funds < £30k
(up from £18k)
UFPLS of any size – no
product purchase (unless disqualified)
3 x £10k ‘small pots’ (up from 2 x £2k) regardless of your total pension funds
Tax treatment
25% as tax-free PCLS
75% as income at marginal
rate
Tax treatment of UFPLS
25% tax-free element built
in to each UFPLS
75% as income at marginal
rate
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Too much too young: UFPLS example 1
Dave retires at 65
State pensions £150 per week (£7800 pa) plus £250k DC pension fund.
Wants to cash it in and use to dip into to supplement state pension income
Option 1: UFPLS for £250k
25% tax-free = £62.5k
No personal allowance –
taxable income £207800
£31785 taxed at 20%
£118215 taxed at 40%
£57800 taxed at 45%
Option 2: 10 x UFPLS (£25k pa)
(assume no rise in personal allowance or tax
band/rate changes, no fund growth)
£6250 x 10 tax-free = £62.5k
£7800 state pensions 0%
£2800 x 10 taxed at 0%
£15950 x 10 taxed at 20%
Tax bill = £59353 (and emergency additional rate tax
code)
Net annual income £29610
(10yrs)
Tax bill = £31900
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Client wants to spend the tax-free cash: example
Sharon, age 63, has several DC funds total £750k. Income from
employment £50k. Wants £150k from pension fund for holiday home
Option 1: UFPLS
25% of UFPLS is tax-free
Cash in at least £600k to
generate £150k
£150k remains uncrystallised
Option 2: Flexi-access
drawdown
25% PCLS-only option
£600k - £150k = £450k
remains invested in drawdown
account
£150k remains uncrystallised
Extra tax bill = £201740 (plus emergency tax code)
Extra tax bill = £0
Triggers Money Purchase Annual
Allowance (MPAA) £10K
Retain full annual allowance
£40k
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Exercising pension freedoms triggers MPAA
MPAA trigger events
UFPLS
Flexi access drawdown income
Flexible annuity (TBC)
Scheme pension <12 members
Money Purchase Annual
Allowance (MPAA)
10k pa eligible for tax relief
No carry forward
Notification requirements
Standard annual allowance
40k pa eligible for tax relief
Carry forward 3yrs
Take benefits, avoid MPAA
PCLS-only (nil income)
Traditional annuity
Small pots
Existing capped drawdown (pre
April 2015)
Live DB scheme
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Tax charges on death reduced
Death before age 75 Death on or after age 75
Tax position Lifetime
Allowance test
applies?
Tax position
(income)
Tax position (lump
sum) *
Uncrystallised
pension fund
Tax free Yes Marginal rate
(of beneficiary)
45%
Funds in
drawdown
Tax free No Marginal rate
(of beneficiary)
45%
Annuity
protection
Tax free No Marginal rate
(of beneficiary)
45%
Unspent
UFPLS
proceeds
IHT No N/A IHT
* For 2015/16. Govt intends to change to marginal rate from 2016/17
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Guidance & risk warnings when pension funds accessed
Pensionwise
The Pensions Advisory Service (TPAS) – phone
Citizens Advice – F2F
Pensionwise website
Guidance about options and their pros/cons
FCA sets guidance standards, monitoring role
Pension providers must signpost to guidance/advice
Low take-up indications to date?
Second line of defence
Pension providers must:
• Ask questions based on how customer wants to access pension fund
• Identify risk factor(s) and provide relevant risk warning(s)
• Applies even if customer has received Pensionwise guidance or regulated advice
Some providers are insisting that clients take regulated advice before exercising freedoms
Transfers from DB schemes: mandatory regulated advice from a qualified
adviser
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Major advice opportunity & challenge for industry
Accumulation
• Pension wrappers more attractive v ISAs and other alternatives
• Interaction with child benefit and personal allowance limits – enhanced tax relief
• Annual and lifetime allowance restrictions
Transfers
• Many people need to transfer to access pension freedoms
• Occupational DC schemes
• Legacy DC schemes
• DB transfer mandatory advice (£30k+)
Decumulation
• More choice and complexity
• Cost of choosing wrong option
• Not always a one-off decision. Ongoing advice?
Main improvement required to Wealth firms’ service – advice on pension and tax
Cited by 40% of clients, of whom 50% intend to leave if not delivered*
How willing and well-equipped is the industry to deliver the advice clients need?
*2014 research commissioned by BBA – 250 wealth sector clients
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Do keep up…post A-day changes
Pot follows
member
Accelerated
rise in state
pension age
from 65 to
66
Min pension
age up from
50 to 55
Fixed
protection
2012
Min income
for flexible
drawdown
cut from
£20k to £12k
Capped
drawdown
income up
from 100%
to 120% of
GAD
Flat rate
state
pension
from 2016
Annual
allowance
cut from
£50k to £40k
Cut in yrs
needed for
full state
pension
Fixed
protection
2014
No longer
need to
annuitize by
age 75
Annual
allowance
cut from
£250k to
£50k
USP and
ASP
replaced by
drawdown
pension
Small pots
limit
increases
from £2k to
£10k
Contracting
out of S2P
abolished for
DC schemes
Individual
protection
2014
Lifetime
allowance
cut from
£1.5m to
£1.25m
Default
retirement
age
scrapped
Carry
forward 3yrs
unused
annual
allowance
Trivial
commutation
limit up from
£18k to £30k
Capped
drawdown
income up
from 100%
to 150% of
GAD
Gradual rise
in female
state
pension age
to 65
State
pension age
to rise to
age 67 and
beyond
Lifetime
allowance
cut from
£1.8m to
£1.5m
Max number
of small pots
up from 2 to
3
Onset of
auto
enrolment
into
workplace
pensions
Public sector
pension
accrual
reforms
Contracting
out of S2P
abolished for
DB schemes
from2016
Age
discrimination
outlawed
Pension
Freedoms
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Pension advice capacity crunch?
Retirement planning &
retirement options
All advice not involving transfers from
occupational schemes
R04 or JO4/J05
R08 (bridging paper on pension freedoms)
CPD/gap fill
Pension transfer specialist (sign-off)
Transfers from occupational DB and
DC schemes
CP15/07 changes
AF3 (G60 until 2006)
(plus R04/R08?)
Up to date pension knowledge and
experience
Supervisory/compliance capacity and capability: effective
oversight and challenge
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Many people have a variety of schemes – adviser T&C implications
Contribution
Period
Employer DC or DB Occupationa
l trust-
based?
Pension
Provider
8yrs Nationwide
BS
DB Yes Employer
4yrs Which? Hybrid
DB/DC
Yes Employer
4yrs FSA DC Yes Employer
3.5yrs Sesame DC Yes Employer
(Misys)
2yrs Sesame DC No - GPP Friends Life
4.5yrs EY DC No - GPP Friends Life
Current
scheme
Bovill DC No - GPP Standard Life
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Focused advice: compare and contrast
Example 1
We agreed that we would not take
account of tax-efficiency (eg.
whether it would be appropriate
for you to use your annual ISA
allowance) when making our
investment recommendations.
Example 2
We agreed that we would focus
my advice and recommendations
on your long-term investment
needs.
You did not wish to consider other
potential financial planning
priorities, such as pensions and
family protection, at this time
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Freedom of access: just another investment?
Pension
£16667 contribution
grows to £30102
Benefits after age 55
£21071 (higher)
£25586 (basic)
ISA
£10000
contribution grows
to £18061
£10k for long-term investment.
Assumptions:
40% taxpayer, 3% growth over 20yrs
Child benefit (tapers away between
£50-60k)
£58k income, £8k
pension contribution
Taxable income =
£50k
Up to 75% effective
tax relief
Personal
Allowance (tapers away between
£100-121.2k)
£115k income, £15k
pension contribution
Taxable income =
£100k
60% effective tax relief
Wrappers - ISAs (TEE) v pensions
(EET)
Income tax planning: protect child
benefit or personal allowance
Treat pension annual allowance
more like ISA allowance?
Double-jeopardy annual (£40k) v
lifetime (£1m) allowance
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DC to DC switches to access pension freedoms
Timing When will client wish to start
accessing benefits?
Await developments – existing
schemes and new products?
Charges v
flexibility How is this trade off
affected by client circs
and objectives?
Client objectives Clear need for extra
flexibility?
Occupational DC Employer’s plans for scheme?
Lost benefits?
Transfer specialist AF3
Product
research
and range
limitations
Size of
pension
funds?
Guaranteed benefits
v flexibility trade-off GARs on older, inflexible
schemes
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DB to DC switches to access pension freedoms
Why now? When will client wish to start
accessing benefits?
Wait until needs/priorities
clearer
Overriding client
objective Serious debt problems?
Client-specific needs
and objectives key to
suitability
Importance
of DB fund
to client
Dependants
and state of
health?
Does client want
your advice or a
rubber stamp?
Flexibility & liquidity v
guaranteed income How is this trade off
affected by client circs and
objectives?
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UFPLS or flexi-access drawdown?
UFPLS
Simplicity
25% tax-free cash plus 75% taxed
income
Impact on marginal tax rate
Cashflow impact (emergency tax
code)
Timing of cash – does client need
it all now?
Does clear client objective/priority
point to UFPLS?
Flexi-access drawdown
Flexibility
25% tax-free cash plus chosen level
of taxed income
Viability (afford to bear risk and pay
charges) – legal doesn’t mean
suitable
Product development and cost v
benefit comparisons
Ongoing advice costs
Does client have a foundation level of secured retirement income to build on?
Is the MPAA £10k limit a constraint for this client?
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• Sign-off, peer review, escalation?
• G6O holder competent?
• Suitability checklist
• Risk-based monitoring
• Capacity and capability
• Focused needs analysis questionnaires
• Suitability guidance for contentious trade-offs
• Product comparison and selection
• Insistent clients
• Testing advisers’ technical knowledge
• Keeping up with market developments
• Suitability Report writing
• Knowledge sharing and buy-in/ communication
• Fast moving market – challenges for IFA and restricted propositions
• Occupational transfers?
• Focused advice – investment v pension
• Implications for simplified advice models
Scope of service
Training & Competence
Monitoring & controls
Advice process
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Transfers from DB schemes: mandatory advice
• Client free to reject advice not to proceed
• Provider stances differ in this scenario
• Advisers concerned about liability – only 27% willing to do
DB transfers
‘I can confirm that Mr Jones has taken advice from us when
considering the transfer from their defined benefit scheme to a
defined contribution basis
We are a professional financial adviser authorised by the FCA,
and are independent from the defined contribution scheme’
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How should you deal with insistent clients?
Adviser not listening to client
Client not listening to adviser
Client wants rubber stamp, not advice
Transferring responsibility for unsuitable advice to
client
Insistent client scenarios
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Takeaways
1. Major advice opportunity
2. Challenge: evidence advice quality/good outcomes
3. Consider impact on advice scope/proposition
4. Suitability: focus on client’s specific objectives and
explaining trade-offs
5. T&C of advisers and advice quality checkers
6. Advice process tools/guidance
7. Sign-off and monitoring regime
8. Internal communications/knowledge sharing