It has been reported across numerous sources that The Pensions Regulator (TPR) has written to many large defined benefit pension schemes and asked them to review the calculation of and consider reducing cash equivalent transfer values (CETV).
How is a transfer value calculated?
A pension transfer value is calculated based upon your accrued pension to date, it is then revalued for future years assuming inflation and then an annuity rate applied to calculated the projected cost of the pension at that time. This value is then discounted back to today (called the discount rate) i.e. a reduction is made for an assumed yearly investment growth return over the coming years to achieve the equivalent value needed at your future retirement.
Why have they been asked to reduce value?
The TPR is worried that transfer values are artificially high and encourage people to transfer out. We have seen transfer value multiples of 30, 35 and 40 X the projected income - many people do not expect to live for 40 years in retirement and would prefer to have the pension fund in their own name, so that if and when they (and their partner) die, other loved ones may inherit the balance of the pension. The TPR is worried that with 100,000 transfers out completing in the last couple of years, with a value of c£15bn, this is a loss that pension schemes, particularly those already in deficit, cannot afford to lose. This could drive many big pension schemes in liquidation and force the compensation scheme, the Pension Protection Fund (PPF) to take over and well as companies themselves going into administration. In addition, by taking no action it means pension scheme members that have remained loyal and stayed in the scheme could be penalised for doing so.
How could transfer values be reduced?
Revaluation: inflation, although creeping back up, is low meaning that lower assumptions for future pension income projections are lower than they could be when/if inflation takes that projected guaranteed pension to an even higher level - this will cost the pension scheme even more so they need to protect the scheme assets and keep more in the pot for the future and try and dissuade people from transferring out.
Annuity: rates today are at an all-time low, meaning the cost to buy the future pension using today's lower annuity rates is higher than normal, meaning transfer values are perhaps artificially than they should be. In short, pension schemes are transferring out more than they should be.
Discount: Investment returns have been high but they are falling back again now, however, calculations have to use set, assumed investment return assumptions. Assumptions could be made higher, given upward pressure on inflation and interest rates, meaning transfer values could be lowered.
We think it unfair for pension scheme trustees to be asked to 'penalise' those who wish to transfer the value out just because it is safer for the scheme. The value of your hard earned pension is its value and individuals should not be penalised for the failure of successive governments, regulators and indeed company directors to not take action sooner to fund schemes adequately. We always ask the same question, why is it that large employers can continue to declare 'profits' and therefore maintain tax revenue to HMRC plus 'fat cat' boss bonuses and dividends to both bosses and shareholders when the pension scheme is in deficit? There are multiple examples across the high street, in services industries and construction of collapsed businesses where all the bosses, shareholders and HMRC have been allowed to benefit massively in the past yet the 'worker' loses their job and gets hammered for life with a lower pension in the PPF. TPR, Government and Bosses .... take a look in the mirror!