It has been widely reported that pensions minister, Steve Webb, has warned employers they will have to pay for independent financial advice to every defined benefit (DB) scheme member to whom they offer an enhanced transfer value (ETV), or a cash incentive to transfer out of DB schemes. This is in response to his statement that the use of cash incentives was ‘unfair’ to members, and the Pensions Regulator’s stance that trustees should take the view that these transfers are not naturally in the best interests of the scheme members, even though it could be that for some individuals, depending on their financial circumstances and the level and form of the enhancement, it may well be in their best interests to transfer. Therefore any ETV exercise ought to be tackled with probing and well-informed caution.
ETVs are not currently illegal, but the minister is reportedly concerned that the prospect of cash and/or enhancements in the short-term is encouraging many members to make pension transfer decisions that are not in their long-term interests.
Employers and trustees currently involved in ETV exercises or pension increase exchanges should be mindful of the possibility that such exercises will be scrutinised. Although sponsoring employers should not shy away from considering the merits of an ETV exercise, they should involve the experience of an IFA practice at an early stage ensuring money is well spent, funding communications and member advice, allowing the member sufficient time with the adviser for informed decisions to be made. Critical to the success of any exercise is engaging with an IFA firm that has the relevant depth of technical experience, staff with the right qualifications, a robust process, and crucially the individual member communication skills to engage members at a high level on what can be a complex decision is vitally important. This will also to help reassure trustees.
The driving force behind an ETV exercise is usually an employer looking to reduce the risks associated with running a final salary scheme. Trustees should be aware that ETVs are not the only solution, but some members want to manage their own pension future, taking their own investment decisions and choosing the shape and form of their income in retirement where the current Scheme offers little or no choice.
The motivation for an ETV exercise should be to offer members an option which may be more valuable to them than the alternative, with a potential mutual benefit to the other beneficiaries or plan sponsor, rather than simply a tactic to reduce the cost of a buyout for the benefit of the plan sponsor.
The Government is also reportedly concerned at the use of pension increase exchanges under which members are offered a higher initial pension in return for giving up their rights under the scheme rules to future pension increases. However, even where members are advised not to transfer, many may simply ignore that advice.