Royal London have requested and got the notorious letter sent earlier this year to certain schemes perceived to be vulnerable to pension transfers. It includes the following sections.
There is nothing new about this guidance; Steve Webb is spot on when he says
‘I would hope that well run pension schemes would be taking expert advice when deciding how much to offer to members wishing to transfer out. But the Regulator’s letter is a helpful reminder to all schemes that they need to be fair not only to those transferring out but also those left behind, especially where the scheme in question is in deficit’.
The key statement
Let’s look at that key statement in more detail.
‘In light of recent events concerning your scheme sponsors, we would expect you to take advice from your scheme actuary about whether the basis on which the CETV [transfer value] are calculated remains appropriate… This would allow you to judge whether a reduction or further reduction should be applied to CETVs in light of [an] assessment of covenant strength’.
There’s a lot of code (and jargon) in this statement – here’s an explanation
Recent events – bad PR for pensions and trustees
Scheme sponsors– Tata Steel, BHS , Carillion and troubled employers in general.
CETV – Cash equivalent “transfer value”
Reduction – calculated by actuaries based on the state of the scheme via an “insufficiency report
Covenant Strength – the capacity of scheme sponsors to make up deficits from their own resources.
What this adds up to is a warning to trustees that they should not be paying transfer values in full unless they have a properly funded scheme and/or they have confidence their sponsor can make up any deficit.
I have yet to hear whether recent casualties such as Carillion, House of Fraser and BHS were paying CETVs in full prior to the employer’s demise but it would not surprise me if they were.
Why some schemes are overpaying (and not cutting transfer values)
There are compelling reasons why employers and trustees shy away from issuing “insufficiency reports” on schemes – which allow CETVs to be cut. They include
- The short term benefit to sponsor balance sheets of shedding scheme liabilities at below the FRS102 accounting costs
- Avoiding alarming members by hinting the scheme is insufficiently funded
- Managing scheme costs – especially where trivial pensions are costing plenty to administer and can leave the scheme relatively easily (e.g. without advice)
In all three cases, an insufficiency report can be “unhelpful” in meeting the strategic aims of trustees and sponsors. There is a bias not to issue an insufficiency report and (as so often in pensions) it’s a bias in favour of short-term gain and against the long-term interests of the scheme.
The impact of over-paying
If your KPIs are set on a rolling three year basis (as many CFOs are), then the long-term impact of over-paying on CETVs is not a personal consideration (especially if you are not in the pension scheme).
But if you are a remaining member of the pension scheme and your time horizon is the rest of your life, the long-term impact of over-payment in 2018 of CETVs should be a matter of some concern.
If you are a Pensions Regulator which has statutory objectives to keep schemes out of the PPF and to protect member’s interests , then you don’t want the cost of over-payment in 2018 to come back and bite the sponsor a few years later (in larger recovery payments).
Nor do you want employers, faced with larger recovery payments, packing it in and abandoning their obligations to fund the pension scheme. That way leads to the PPF, to job losses and to expensive pre-pack restructuring with disastrous consequences to shareholders.
In short, over-paying CETVs by trustees in 2018, risks schemes closing in future years, risks people’s livelihoods being lost, risks loss to shareholder value, risks a further impairment in confidence in pensions.
Which is why the Pensions Regulator may need to go further
This letter may be a case of “too little too late”.
There is an argument that where an insufficiency report is in place, CETVs should not be paid. This would have made a big difference at BSPS which paid reduced transfers throughout 2017 (though this did not stop more than £3bn being paid from the scheme through CETVs).
The reduced CETVs still produced £ signs in advisor and member’s eyes and many transfers that took place are now being contested with litigation being considered against trustees for insufficient warnings.
In its standard letter (the one revealed by Royal London), tPR go on to guide trustees on these warnings
Unfortunately, the reaction of some members ( prompted by some advisers) is to dismiss such warnings with “they would say that”. Such warnings get put in the “fake news” tray – aka “project fear”.
The Pensions Regulator is right to insist on better warnings , but wrong if it thinks that such warnings will stop flows. Infact there have been recent cases where, when reports of transfers being obstructed reached members, some – who had not considered transfers before – headed for the door.
I think there is a strong argument for the Pensions Regulator to have powers to stop transfer payments in extreme circumstances, such as the run on BSPS.
The enormity of 2017 transfers cannot be over-estimated
The billions that flowed out of DB schemes in 2017 will have given a short term fillip to corporate balance sheets.
But they leave a legacy of increased burden for employers in terms of meeting pension liabilities, especially where insufficiency reports were not issues – or under-cooked.
Members who transferred out on inflated transfers are happy enough today , but have they got the support to manage their finances throughout retirement. Will they overspend their pension pots – or hoard them in fear of running out of money?
Will Trustees come to look back at the CETVs paid out in the past eight quarters and wonder just how they came to give away the family silver as they did?
The Pensions Regulator and the FCA may look into the stable and mark the open door, but will they look back at this period with pride? I suspect they know, what I think, that they failed in their statutory duties to protect the public and the pension scheme members.
This letter was the right letter, it should have been issued 18 months earlier.
There’s some good comment on this subject in today’s Times (29/08/18)
— Pension Plowman(@henryhtapper) August 29, 2018