When George Osborne announced ‘pension freedoms’ in his 2014 Budget, the decision was seen within government as about improving the flexibility of Defined Contribution pensions.
Unless you had a very small DC pot which could be cashed out or a very large pot with drawdown options, the mass market outcome would be to buy an annuity.
With annuity rates plunging and too few people shopping around, retirees were often getting poor value and millions of tomorrow’s retirees were set to follow.
Although pension freedoms were fundamentally about DC savers, the government had to make a decision about whether people in Defined Benefit pensions should be able to benefit.
Those in unfunded public sector schemes were not allowed to transfer because of the immediate impact on government cashflow.
But a more relaxed approach was taken to allow private sector DB transfers, presumably on the assumption that most people would still want to retain valuable DB benefits.
What happened next surprised both the Treasury and the FCA.
The volume of DB transfers was much higher than expected, and income tax revenues from pension transfers have consistently exceeded Treasury forecasts.
The FCA also got caught up in the early euphoria around the new policy, even consulting on dropping the presumption against advising people to transfer in favour of a ‘neutral’ starting point.
The real regulation of DB transfers has come not from the Government or the FCA but from the Professional Indemnity insurers.
The PI insurers had financial ‘skin in the game’ and quickly realised that they could be on the hook for large compensation claims if poor quality advice was given.
With record transfer values on offer and a booming stock market, the flow of complaints about inappropriate advice to transfer was initially very low and remains subdued.
But the warning signs were there, whether in concerns over the advice given to British Steel members or in the FCA’s small-scale sampling which showed alarmingly high levels of unsuitable or unclear advice.
Long before FCA clampdowns, I was hearing from advisers who were getting a tough ride from their PI insurers. Professional Indemnity insurance for financial advice is only a small part of the overall PI market, and capacity in the market as a whole was coming under pressure.
But the commercial viability of PI insurance to advisers in particular was becoming increasingly challenging. PI insurers were taking on a ‘black box’ liability for all past advice, and the FCA’s method of calculating compensation could easily generate six figure sums.
The decision by the FOS to hike its maximum compensation level made matters worse.
PI insurers responded rationally but in a way which made it much harder for advisers to get affordable cover. Premiums were hiked, excesses on individual claims were increased, caps were placed on volumes and specific exclusions (such as on advice on British Steel schemes) were introduced.