While the flexibility to do what you like with DC pension savings may be welcome, it creates a danger that members will use their funds in ways they come to regret and a more general danger that they will end up without a secure income for the duration of their retirement.
New options for DC scheme membersPrior to April 2015 DC scheme members were allowed to draw 25% of their pot as tax-free cash, if they wanted to, but could only use the rest of their fund to buy an annuity or access it via an approved income drawdown arrangement.
After April 2015 the 25% tax-free cash is still there but the 75% can be accessed as and when you like subject to payment of income tax at the individual’s marginal rate at the time the money is withdrawn. Annuity and drawdown options are still there and new options have emerged.
As part of its Pensionwise guidance, the Government has detailed the options for what you can do with your pension pot.
The new regime is permissive but pension schemes may not offer all the flexibilities that are permitted. However, individuals have a right to transfer to other schemes, which potentially widens their options.
While access is potentially available from age 55, exercising rights to access pension savings may have repercussions for those still employed in the job where the pension was earned, in terms of what pension their employer may provide in respect of future employment.
The nature of these changes means that there is no longer a compulsion to use pension savings to provide a pension income; it can be used for other purposes. This freedom, therefore, gives rise to a danger that, whether deliberately or through bad decisions, people will not make provision for an income which will sustain them throughout what could be a long period of retirement.
Effect on DB Scheme membersMembers with rights in DB schemes are, for the most part, not affected by the new flexibilities offered to those with rights in DC schemes. However, there are a number of ways in which some may be impacted.
DB schemes can allow or offer members with small DB entitlements the facility to take all their benefits as a cash sum. If benefit rights are worth less than £10,000 they can compel it. Where benefits are valued at an amount between £10,000 and £30,000 then paying benefits off with a cash sum is only allowable if the member’s scheme benefits when added to any other private pension rights do not exceed £30,000 in total. What can be offered will depend on scheme rules and is not a member right.
This process, known as trivial commutation, allows schemes to reduce their administration costs by getting rid of the obligation to pay small amounts of pensions. While members may welcome a cash sum they should note that they will not be able to secure a lifetime income of the same value with it elsewhere.
DB members can request a transfer value of their DB pension to a DC scheme and then access the DC flexibilities. Where scheme members’ benefits are valued at over £30,000, the DB scheme trustees are required to check that the applicant has received independent financial advice before agreeing to a transfer. Members whose DB pensions are in unfunded public service schemes (e.g. the NHS or Civil Service scheme) are excluded from this as the Government has decided not to allow transfers out of these schemes to a DC scheme.
DB members considering a transfer to DC should note that transfer values will not be sufficient to allow them to secure the same income by buying an annuity elsewhere, and may be paid at a reduced level where schemes are in deficit. Some employers may be encouraged to offer transfers to members as a means of reducing the costs and risks they (the employer) are underwriting.
DB schemes may often offer their members the facility to make AVC (additional voluntary contribution) savings on a DC basis. Schemes will be allowed to extend the DC flexibilities to these members who otherwise will be allowed to transfer them out of the scheme independently of their DB pension.
Guidance and adviceTo try and help members understand the options that they have, the Government is offering all those people aged 55 and over, who have DC pension benefits, access to a guidance service. This will explain options but not provide financial advice. This guidance is called Pensionwise. There is a website anyone can access (https://pensionwise.gov.uk) and an option to register for phone or face to face guidance. Unite would encourage members to take advantage of this service.
The Financial Conduct Authority (FCA – which regulates financial companies running pension schemes) has issued regulations requiring providers to provide warnings to customers accessing their pension benefits e.g. a person who seeks to draw their whole pot out as cash will be asked whether they have considered the tax implications.
Where employers offer members DC schemes then best practice is for them to provide members at the point of retirement with access to independent financial advice. This would be expected to cover all the options offered through the scheme as well as outside options open to the member.
Members of Unite can access free financial advice on their retirement options, in the context of a full review of their finances, through our membership services arrangement with Lighthouse Financial Advice. An appointment with an adviser can be made by calling 0800 085 8590 and referencing your Unite membership.