Defined Benefit  

Top 10 tips on DB transfers

  • Understand the rise in demand for advice on DB transfers.
  • Learn the pros and cons of recommending DB transfers to clients.
  • Comprehend the questions to ask clients to help them make the right decision.
CPD
Approx.30min
Top 10 tips on DB transfers

Total access to your defined contribution (DC) pension fund, the reduction in tax on DC death benefits and the ability for non-dependants to “inherit” your DC pension were game changers in the advice world.

This happened in a period where Defined Benefit (DB) transfer values have been at historic highs.

It’s quickly taken a niche, high-risk advice area - choosing to transfer your defined benefit (DB) pension to a personal defined contribution (DC) arrangement - and placed it firmly into mainstream planning.

This combination of events has seen a large rise in demand for advice on transfers from defined benefit schemes. 

Clearly many are concerned about giving advice in this area, with the potential for future regulatory scrutiny should we see poor customer outcomes emerge.

And if they do emerge and we look back, what should we be thinking of now?

1. Transfer values

The cash equivalent transfer value (CETV) is calculated on a specified actuarial basis and takes into account accrued benefits and any options and/or discretionary benefits. 

Broadly, the calculation is:

Step 1: Pension at date of leaving service is calculated

Step 2: This is re-valued by statutory requirements/scheme rules to normal retirement age

Step 3: The capital cost of buying the re-valued amount is identified using reasonable annuity rates

Step 4: The capital cost is ‘discounted’ back to arrive at today’s transfer value.

The rise in values is basically down to low gilt yields driving up the capital cost, with low investment returns, the main driver of the discount, meaning we discount back to a higher place.

There’s scope within the regulations to allow variations i.e. different values for the same set of benefits.

For example, schemes may have different discount rates based on their asset mix, policies on including discretionary benefits, their membership profile and mortality assumptions could differ. One of the topical reasons is where the scheme is underfunded i.e. their assets are insufficient to meet their liabilities.

Some schemes might actually enhance the transfer value to encourage transfers out. It should be noted that where enhanced/fixed protection are held, a transfer of an amount higher than the actuarial equivalent of benefits would cause protections to be lost.

Transferring from an underfunded scheme that is in recovery could cause a client to lose out. 

Conversely, if yields rise then values could fall if they delay. 

Have you covered off with the client how transfers are valued and the likelihood, or otherwise, of values rising or falling if the transfer is postponed?

2. Partial transfers

As part of the advice process you explore all the options available to meet the client’s needs and objectives.

Most clients’ income requirements will be split into two parts – discretionary or essential spend.