Shortcomings of DB transfers

The question was asked about how advisers have adapted their business models in response to the significant increase in the DB to defined contribution (DC) transfer market, with a focus on the risk of harm to those who are leaving DB schemes. 

In the past two years, the FCA requested information from 22 firms concerning their DB processes. It reviewed files from 13 firms, visited 12 and, since the process commenced, four firms have “chosen” to stop advising on DB transfers. 

The first part of the update addressed the roles of firms that work with advisers to provide the transfer process, how advisers delegate various functions and how, in many cases, advice was unsuitable.  

As we know, pension transfers have long been a specialist service and as such required specialist regulatory permissions. This has caused issues for advisory companies that have the clients, but not the requisite regulatory status. To address this, the transfer specialist would work with the adviser to provide the regulated part of the process. There could even be a third party involved to do the investment. The FCA has looked at some of these arrangements and criticised the lack of information sharing between the introducer and the specialist, leaving the specialist with too little information on the client’s needs, objectives and personal circumstances.

The FCA also listed some of the other shortcomings it had found in its dealings with specialist transfer firms: 

• Recommendations made without knowing where the money was to be invested.
• Recommendations made by the non-specialist.
• Lack of comparison between the DB scheme and the receiving scheme.
• Lack of consideration of the fund charges and likely returns of the receiving scheme.
• Use of default schemes.
• Lack of resources causing delays.

The point is that such multi-adviser arrangements need better regulation and oversight. 

As well as the specialist transfer firms, the FCA looked more generally at the market – the findings were not pretty. 

Suitability of advice

The big take away has been the FCA’s concerns on the general suitability of advice. It found that in 88 DB transfers cases where the advice was to transfer, 47 per cent were suitable, 17 per cent were unsuitable and 40 per cent were unclear.

It also looked at the suitability of the recommended product and investment fund pertaining to that product and found that 35 per cent were suitable, 24 per cent were unsuitable and 40 per cent were again unclear.

Caution is needed here, as the sample was very small, but that is the information we have to work with. Comparably, in the Assessing Suitability Review earlier in the year, the suitability levels for accumulation and retirement advice were in the region of 90 per cent.

The faults identified by the more recent work were once again fundamental issues: poor processes; lack of information regarding needs, objectives and personal circumstances; inadequate risk profiling and the lack of a comparison between DB and DC schemes. 

So, what does this mean and should it be taken as a true cross section of what is happening across the country?

As mentioned earlier, the sample was small, probably because the subject matter in this exercise was more complex than on advice generally. It is also interesting that a large proportion of cases were not right or wrong but "unclear", although the FCA has been quoted as saying that an unclear rating constitutes a breach of conduct of business rules in its eyes.

Either advisers are not being diligent enough in their documenting of the whole process or perhaps they are making a recommendation to transfer with less information than they would have had in the past.

Key points

• The FCA produced a snapshot of the current situation following its consultation on defined benefit transfers.
• Advisers are making a recommendation to transfer with less information than they would have had.
• The whole transfer process is complicated and uncertain.

This could well be due to the fact that many clients are keen to get a positive recommendation from their adviser as quickly and cheaply as possible. Transfer values are currently high and the availability of a high value that is only guaranteed for a short time with the possibility that it might fall could certainly focus the mind on getting that positive decision.

The FCA consultation and some of the shortfalls articulated in the update have shown some of the new ways of thinking for the transfer process. 

Many of the transfer value analysis system (TVAS) assumptions are going to be updated in FCA's guidance on appropriate pension transfer analysis (APTA), of which details are still to be announced. However, the focus of such quantitative assumptions has moved from just looking at the transferring scheme to bringing in the destination of the money, as well as the planning needed to achieve a similar benefit based on investment planning and capacity for loss (focusing on new products, the investment funds and charges on those funds). 

There is a big quantitative issue involving the sacrifice of a guaranteed income, but there are many iterations of the qualitative issues – death benefits, paying off debt, a need for inflation proofing, the viability of the sponsoring employer and even the percentage of wealth represented by the transfer value. These are difficult subjects to shoehorn into a rigid tick-box process. 

What might happen next

At the moment the focus is on the advice process, there has been no suggestion of negative outcomes. If that is the case then there is a strong message for all in this market to get back to the details of Conduct of Business (COBs) 19 and make sure processes and procedures are watertight. 

The issue of redress should also be considered. It is virtually impossible to reinstate members into DB schemes. Moreover, how is a bad outcome measured, particularly if the reason for a transfer is documented as a qualitative one, but any future complaint is based on a quantitative one? 

The elephant in the room has been pension freedoms. Under one pension regime the need for a guaranteed income does not exist and indeed the abolition of the need to buy such a guaranteed income sends signals to consumers, perhaps that a guaranteed income is not so important and that there is a choice over how to spend the money. However, under the other pension regime, a similar individual will have to pay for advice to access their money, even to the point that they pay and the advice might be not to transfer.  

The whole transfer process is complicated and uncertain – advisers talk to me about "liability" rather than relationships. We need to mend the trust between advisers and clients. Perhaps we could produce some form of detailed guidance that is very strict and to the point on the downsides of transferring – a triage process if you like. A similar effect might be achieved by a ban on contingent charging, but will people be less likely to try the process if they have to pay an advice cost, whether they take out a contract or not? 

Whatever we do, simplicity and trust should be the foundations of the process. 

Mike Morrison is head of platform technical of AJ Bell