The sizeable pension transfer market exists as a result of competition. This multi trillion dollar industry serves to help individuals get the best deal for their needs. Although the majority of people leave their pension savings to languish in dormant pension schemes more are transferring to better options every year.
Two Pension Options: Defined Benefit vs Defined Contribution
At present your pension(s) will either be in a defined benefit (final salary) or defined contribution (money purchase) scheme. The former provides an income based on your final salary thereby offering a guarantee whilst the latter depends on investment performance.
Why Transfer a Pension?
The aim of transferring a pension is always to be in a better position than when you started. Avoiding bad advice should ensure that all costs are accounted for when weighing up the pros and cons of transferring a pension.
Pension Transfer Options
- Company pension transfer – When you move employers you may wish to transfer from your old scheme into the new one. This may be done for convenience and to allow you to benefit from consolidation. As with all transfers it is not a foregone conclusion that this will be to your advantage so weighing up the terms offered is critical. It is extremely unlikely that you will be offered the option of moving an old pension into a final salary scheme, which would complicate the process because establishing the value of buying added years is an inexact science.
- Active pension transfer – This involves moving a private pension that you are still contributing to.
- Dormant pension transfer – This involves moving any old pension schemes that are no longer being contributed to.
Pension Transfer Benefits
The following is a list of the potential advantages available…
- Consolidation: Moving all your pensions into one scheme should make management easier.
- Cost: When accounting for the charges of closing your old pensions, opening a new scheme and the ongoing running costs if it is cheaper then it may be in your interest.
- Improved investment options: A wider selection of historically better performing investments could provide higher returns going forward. Ideally you should have unrestricted access to all investments available on the market.
- Improved choice: As you can select from any pension structure on the market there may be more favourable versions available for your circumstances. For example, if you have moved abroad then the advantages of QROPS may be applicable.
- Increased flexibility: Occasionally a final salary pension transfer may be in your interests. This can provide you with the ability to tailor your income to your needs whilst potentially leaving a nest egg for heirs.
Pension Transfer Drawbacks
On the contrary, what follows is a list of potential disadvantages…
- Loss of guarantees: Certain pensions can offer guarantees including but not limited to a known income on retirement, income increases in line with inflation, additional death benefits, and a confirmed annuity rate (percentage of a lump sum given annually in retirement i.e. a rate of 10% would give £10,000 p.a. for every £100,000 in retirement savings) which is usually far in excess of any rate available today.
- Costs: There may be many costs involved both explicit and implicit. The former are known charges including exit fees, entry fees, set up fees for the new pension and potentially fees for advice. The latter can include a Market Value Adjustment (reduction) on investment values to account for early withdrawal, bid-offer spread (the difference in cost between buying and selling) if it is not possible to transfer the underlying investments directly, and transaction costs.
- Inability to reverse transfer: This specifically concerns defined benefit schemes. Once you decide to give up your final salary pension and it has been transferred it is extremely unlikely to be able to reverse the action irrespective of the reason.
Defined Benefit (Final Salary) Pension Transfers
There are many aspects to consider when contemplating such a move especially in relation to the guarantees given up. Taken from our in depth look on final salary pension transfers we highlighted two key reasons for a transfer: avoiding the risk of a fund default resulting in reduced pensionable income and a high transfer value offer.
- Risk of fund default: In the event of a fund closing through default pension income receives a 90% guarantee up to £36,401.19 p.a. (at age 65 – since April 2014) from the Pension Protection Fund (PPF) – i.e. a maximum pensionable income capped at £32,761.09 p.a. If you are concerned that your pension scheme may collapse you could be considering the merits of a pension transfer especially when your expected retirement income is in excess of the maximum cap.
- High transfer value offered: If the money on offer to give up your defined benefit pension rights is sufficiently large you may wish to move schemes. There is usually an amount which will compel you to give up your rights. The more risk averse you are the higher the transfer amount will have to be for you to change.
Defined Contribution (Money Purchase) Pension Transfers
Transferring from a defined contribution scheme is more straight forward. Since you are comparing like to like you can weigh up the pros and cons offered by both schemes to determine which is best for you.
Pension Transfer Jurisdictions
Following changes to UK pension rules in April 2006 there is a lot more flexibility about where you can hold a registered pension scheme. If you still live in Great Britain then the more usual route is transferring to a UK based scheme in the form of a Self Invested Personal Pension (SIPP). However, if you live abroad then there is a wide variety of locations where you can place your pension. It is not necessary to have ties with the country in question.
Some of the most common overseas jurisdictions are: Isle of Man, Guernsey, Jersey, Malta, and New Zealand.
Overseas Pension Transfers
The main option for transferring a pension overseas is a Qualified Recognised Overseas Pension Schemes (QROPS). These hold many advantages for UK pension holders who are, or will soon be, based abroad. Some of the main benefits include avoiding unnecessary foreign exchange risk, access to a higher tax free lump sum, and the potential to reduce tax whilst investing, withdrawing income & on death.
UK Pension Transfers
For those remaining in the UK there are a few different types of plan that you can transfer into. Some of these are Self Invested Personal Pension (SIPP), Stakeholder Pensions, and Personal Pensions. When making the decision on whether to transfer or not, pay particular attention to any benefits you may be giving up.