Is transfer out of a final salary scheme ever advisable?
By Deborah Benn
May 17, 2013
Final salary, or defined benefit schemes, are considered the cream of the pensions crop, but is there ever a case for advisers to consider transferring international clients out? Deborah Benn talks to Paul Stanfield, chief executive of the Federation of European International Advisers (FEIFA).
The regulators take a tough stance on transferring out of what are seen as ‘gilt-edged’ final salary or defined benefit retirement plans, particularly when compared with the now more common defined contribution (DC) schemes. So much so that a new industry code in the UK brought in last year aims to stop employers offering cash incentives to staff with final salary pensions to encourage them to leave what is now a much more costly scheme for employers to run. A similarly dim view is taken over advisers encouraging clients to give up these benefits, so it’s important to ensure that relevant pension permissions are in place. This is particularly important for non-UK regulated advisers who are assisting UK-resident clients [EXPAND Read more]
“It’s a very emotive area, but there is an argument that an adviser would be negligent if they failed to analyse a pension just because it’s a DB scheme. In the light of many companies now sitting on huge pension deficits, not to do so could be just as damaging as a poor transfer decision,” comments Stanfield.
Getting to grips with the DB/DC options for international clients was one of the areas covered in a series of recent FEIFA Masterclass seminars held across Europe, where issues such as scheme deficits, passing on benefits and making the most of residual fund income were explored. In most cases, Stanfield says analysis would see the majority of people staying in a DB scheme, but with the economic climate over the past five years putting pressure on companies’ ability to fund and meet liabilities of DB schemes, the decision is not as straightforward it was in the past. For international clients the analysis process can be additionally complex due to the fact they may be contributing to a number of schemes cross border.
Any analysis should first aim to reveal the level, if any, of a DB scheme deficit and what contingency plans the company has put in place to manage liabilities, taking into account how close to retirement the client is. Company solvency is an issue going forward and while most of the bigger companies will have pension scheme liability management plans in place overseen by the regulators, smaller to mid-sized companies running DB scheme deficits may have less options available to them.
As well as the overall health of the scheme, further issues worth considering include the structure and level of benefits on offer. “Quite often DB or final salary schemes might have a 50% widow’s pension on death but nothing to pass on to non-dependent children, which is something many clients may want,” explains Stanfield.
Making the most of any residual fund income was another area that the workshop explored. “Where the yield is right there is often potential to boost pension income, which even when taking into account any taxes, can be worthwhile. For expats there is also the potential to make any residual fund pass free of tax to beneficiaries. So it’s important to assess all angles before coming to a decision.”
In terms of investment tools, structured investments can be highly effective at various stages along a client’s retirement planning lifecycle. Incorporating structures in pension portfolios often reduces risk and may well improve the efficiency of return. In particular, a consistent income stream can often be obtained or enhanced by careful use of relevant structured products in conjunction with funds. “Our recent seminars showed that it is possible to increase income and reduce volatility through diversification into mutual funds alongside structured products. There are several ways to do this such as using an auto call or kick out product if the fund is in the accumulation phase of retirement. If you look at certain product examples and simulate returns over various periods from, say, 1998 to the present day then you often see that returns can be enhanced and volatility reduced,” explains Stanfield.
It is, however, important that advisers ensure they not only fully understand structured products themselves, but that they target their use at clients who also understand how they work. This is particularly important in light of the fact that regulators are increasingly looking at how structured products are sold to retail investors. Stanfield believes there is, however, a place for structured products that are simple and transparent in terms of structure and fees.
“At the end of the day if a product is very complicated you need to ask why that is the case. Perhaps it’s not good value. Quite often better value products are reasonably straight forward ones. But the most important point here is that advisers can no longer sit back and ignore the potential pension time-bomb. If they have a client in a final salary scheme, it does need to be assessed sooner rather than later,” concludes Stanfield.
FEIFA plans to hold further workshops for its IFA members on various financial topics throughout the year. For more information www.feifa.eu [/EXPAND]