During 2017 or early in 2018, the Spanish State Pension system is due to run out of money. At one point, the reserve fund the government created for this was standing at 66 million Euros.
Why has this happened?
During the crisis, millions of jobs were lost, and with them, an almost parallel reduction in contributions to the Social Security. Furthermore, a large part of the new jobs are precarious – temporary, part-time or free-lance – and with low salaries. This means that contributions to the system are way below expectations and the minimum required for it to be able to meet outgoings with incomings.
While this has been happening, payments to retirees have been increasing. In the last 11 years the number of actual pensioners has increased by over a million (8.3 million up to 9.4 million). The average pension amount paid out has also increased, from €647 per month to €906 from 2006 to 2016. In 2007, 79 billion Euros was paid out in pensions, compared to 117 billion in 2016, an increase of 48%. In real terms, the annual deficit for the year is 19 billion Euros.
This issue of funding pensions is made even harder by the lack of people in employment. In many European countries it’s normal for 50% of the population to be in work, in Spain it’s only 40%.
Ideas on how to solve the problems being explored
These range from not putting a cap on contributions (this would generate more income in the short term, but mean more pensions payable in the long run). A more popular idea is to allow those people retired to still work and receive their entire pension, which would generate increased state contributions. Gaining more support is the change to stop those who are not contributing to the system to not receive state pensions/handout, such as widows and orphans. These would instead be funded from current tax revenues.
In essence Spain may have to look at what many other countries are changing, such as making people contribute for more years and lower percentages to effectively cut the average pension payments. As well as increasing Social Security contributions. But what does remain clear is, if you are ONLY relying on the state to fund your retirement, you could be looking at grave consequences.
To talk through what your retirement looks like, and what you can do to shape it, feel free to contact Chris.
(Source ‘The Corner’ Fernando Barciela)
Spanish State Pension system about to go Bankrupt?
During 2017 or early in 2018, the Spanish State Pension system is due to run out of money. At one point, the reserve fund the government created for this was standing at 66 million Euros.
Changes to QROPS from 9th March 2017
The UK Government announced major changes to Qrops schemes as from the above date (note this does not affect those who already have a Qrops). In essence, anyone who is resident outside of the EU/EEA or not living in the country where their Qrops is based (limited options here) will be taxed at 25% of the value of their pension, if this occurs within 5 years of starting a Qrops (i.e. becoming non UK resident).
So for example, Chris Burke moves his pension from the UK into a Qrops on the 30th March 2017 to a scheme based in Malta (one of the most popular places to hold your Qrops due to its strict regulation). In 2021 (4 years time) Chris decides he is moving to Dubai. He would be taxed 25% on the value of his Qrops.
Why is the UK doing this?
Well, there are many reasons and you would think Brexit is one (many people leaving the UK and perhaps taking their pensions with them). Qrops is also very popular due to its potentially tax efficient and security aspect of securing your UK pension (this is not the case for everybody so good advice is needed). You would also have to look at the potential taxes the Government would raise from this, there are many Qrops based schemes around the world and by limiting where you can hold your pension greatly affects those that can move it.
So to clarify, UK pension transfers to QROPS requested on or after the 9th March 2017 will be subject to a 25% tax charge, unless;
1. The QROPS is in the EEA and the Member is also resident in an EEA country.
2. The QROPS and Member are in the same country or territory. This is a limited if negligible part of the market.
3. The QROPS is an employer sponsored occupational scheme, overseas public service pension scheme or a pension scheme established by an international organisation.
Draft Guidance confirms that for the purposes of these measures, the EEA includes Gibraltar, which is considered part of the EU as a part of the UK.
QROPS Pension Transfer
If you ever worked in the UK, no matter what your nationality, the chances are you were enrolled in a private pension scheme. The UK government continues to tweak legislative changes affecting the expat’s ability to move this pension offshore. On the surface, these changes appear to limit transfer options, but in reality they have strengthened the legal framework offering expats continuing advantages.
When you leave the UK your private pension fund remains valid but is frozen, or deferred, until you reach retirement age. The pension income you then receive is taxable in the UK no matter where you are based in the world. Once you die the pension will continue in the form of a spouse’s pension if you are married; otherwise it will cease. When your spouse dies, all benefit payments come to an end.
If you take any part of your fund and then die before you fully retire, a lump sum can be paid to your spouse.
In April 2006 Her Majesty’s Revenue and Customs (HMRC) introduced pension ‘A’ day. This liberalised UK private pensions and allowed people leaving the UK to transfer them overseas, often to a new employer. In doing this the UK complied with European legislation which allows all citizens the freedom of movement of their capital. Thus ‘Qualified Recognized Overseas Pension Schemes’ (QROPS) were born.
Recent Chamges 2017
During the March UK budget there was a very unexpected announcement regarding pension transfers out of the UK. The headline was :
“HM Revenue & Customs (HMRC) has announced that Qualifying Recognised Overseas Pension Schemes (QROPS) transfers for individuals not in the European Economic Area (EAA) will be hit with a 25% tax charge”.
At first glance it sent shockwaves through all concerned with pension transfers, after a moment to digest the news it became much clearer that there were exceptions to the rule, detailed below:
1. The QROPS Trustee is in the EEA and the client/member is also resident in an EEA country (not necessarily the same EEA country);
2. The QROPS and the member is in the same country; or
3. The QROPS is an employer sponsored occupational pension scheme, overseas public service pension scheme or a pension scheme established by an International Organisation (for example, the United Nations, the EU, i.e. not just a multinational company), and the member is an employee of the entity to which the benefits are transferred to its pension scheme.
It is also important to understand that if a client was to move outside of the EEA within 5 years of the transfer then the tax rate would apply.
In most of the cases I deal with this new tax ruling will not affect the transfer. Since moving to Spain all but one of the transfers I have implemented are EU based.
QROPS are not necessarily the right thing in every single case. In order to decide whether it would be advantageous to transfer your pension or leave it in the UK, with the intention of drawing the benefits in retirement, please contact me so that I can carry out a personalised evaluation. There may be compelling arguments, outside of the evaluation alone, which are often overlooked and may affect you in the future.
One of these is that a large number of UK schemes are currently in deficit to the point that they will be unable to pay future projected benefits. This would mean that even though it looks as though there are arguments to leave your UK pension in situ it may actually be wiser to transfer it.
In order for you to make the best decision you need to professional advice on what would be the best situation for you. This will entail seeking details of the current UK schemes, including transfer values, the types of benefits payable to you and options going forward when you get to a retirement date and when you die.
Advantages & Disadvantages of a Transfer Between a QROPS and a SIPP
Lump Sum Benefits
QROPS – If you transfer your benefits under the QROPS provisions to a Malta provider, in accordance with the rules of this jurisdiction, you may be able to take a pension commencement lump sum of up to 30% (unless you have already taken this lump sum from the UK pension). Under the current HMR&C (Her Majesty’s Revenue and Customs) rules to qualify for the lump sum option you must be age 55 or over. Your remaining fund is then used to generate an income without having to purchase an annuity. The 30% pension commencement lump sum is only available once you have spent 5 full, consecutive tax years outside of the UK (in terms of tax residence), if you are within the first 5 years, we strongly advise you to limit the pension commencement lump sum to 25%. From 6 April 2017 this 5 year period has been extended to 10 years.
SIPP – The maximum Pension Commencement Lump sum from a SIPP would be 25%.
No Liability to UK Tax on Pension Income
QROPS – This will be paid gross and you declare the income in the country you are resident in as long as the QROPS jurisdiction has a Double Tax Treaty (DTT) with the country that you are resident in. Transferring under the QROPS provisions ensures that, if tax is due on pension income, it will only be taxable in the country of your residence.
SIPP – This should be able to be paid gross, although many clients find this to be a very awkward process to solve as the pension company does not always talk to the HMRC and therefore at least for the first year or two the pension is paid net of basic rate tax and sometimes even on an emergency tax basis. This can be reclaimed, but will involve more paperwork than that of a QROPS.
No Requirement to Purchase an Annuity
There is no longer a requirement to ever purchase an annuity with either your UK pension or in the event you make a transfer under the QROPS provisions. Therefore the rules below are the same for a QROPS and a SIPP.
With both a QROPS and a SIPP the maximum age you must start to draw an income is from age 75. The Pension commencement Lump Sum must be taken by this age or the option to take it after this age is lost.
The budget changes in the UK has meant that from April 2015 the restrictions imposed from drawing a pension income from a UK Pension Plan will be scrapped. This means that investors will be able to take the whole of their pension as a lump sum if they wish from age 55. The first 25% would be the standard Pension Commencement Lump Sum but the remaining amount would be subject to your marginal rate of income tax. The Malta QROPS have now followed these changes to allow full flexibility also.
This would not be possible with a Final Salary pension. It would need to be transferred to a SIPP or QROPS to utilise these options.
Secure Your UK Pension Pot
Some defined benefit schemes in the UK are in deficit. Since the deficit forms part of the balance sheet of the company, this can present a huge risk to your pension fund.
Transferring your UK benefits to a SIPP or QROPS provisions could enable you to have full control of these funds without worrying about the financial situation of your previous employer.
Ability to Leave Remaining Fund to Heirs
QROPS – All death benefits will be paid out from the Malta QROPS with 0% death tax no matter what age an individual is.
SIPP – The recent UK Budget has changed how death benefits will be paid to their heirs in the future. If death occurs before age 75 then any remaining balance in a pension fund can be paid tax free to any beneficiary. Otherwise if a member passes away after the age of 75 then there would be a tax charge, any lump sum benefit would be subject to the beneficiaries marginal rate of income tax.
A transfer under the QROPS provisions will allow the member to leave lump sums without deduction of tax to heirs no matter what age they pass away, so it is clear and simple. (this is not applicable to Defined Benefit schemes). The below table shows the situation more clearly.
Defined Benefit Plans
|UK Pension –
(generic pension benefits)
|SRA||Married couple 1st to pass away||50% income to Spouse|
|Married couple 2nd to pass away||0% of total plan|
|Single but with grown up children||0% of total plan|
|Lump sum to future heirs||0% of total plan|
|SRA||Married couple 1st to pass away||100% of fund value to any beneficiary|
|Married couple 2nd to pass away||100% of fund value to any beneficiary|
|Single but with grown up children||100% of fund value to any beneficiary|
|Lump sum to future heirs||100% of fund value to any beneficiary|
SRA – Selected Retirement Age
The tables are based on the usual death benefits being taken in retirement. Some plans may have slightly different death benefits which may be higher or lower than 50% income provided on death and guaranteed periods for the first 5 years. Please check the exact benefits within your scheme for a full exact comparison.
A standard UK pension will usually only be invested and pay benefits in Sterling, which means the member runs an exchange rate risk in respect of pension income, in addition to incurring charges in converting the pension payments to the currency of their country of residence.
A transfer under the QROPS provisions means that the pension payments can be made in the local currency, thus potentially eliminating exchange rate risk.
Lifetime Allowance Charge (LTA)
QROPS – There is no LTA charge within a QROPS so transferring larger plans to a QROPS may not be caught in this reduction in the future. Careful planning will be needed with your adviser if you are close to the limit in the UK. (a transfer to a QROPS is a crystallisation event, so will be tested against the LTA at that stage, any benefits above the LTA at time of transfer will be subject to a 25% tax liability.
SIPP – This is a restriction on the total permitted value of an individual’s total accrued fund value in UK registered pensions, currently £1m. Those who exceed this value face a potential tax liability of 55% on the excess funds on retirement at any time when there is a “benefit crystallisation event” that exceeds the LTA. A benefit crystallisation event is any event which results in benefits being paid to, or on behalf of, the member and so includes transfer values paid to another pension scheme, as well as retirement benefits.
QROP & SIPP If you have a pension(s) with a combined transfer value of less than £50,000 then the charges may be prohibitive.
Loss of Protected Rights
QROPS & SIPP – A transfer may result in the loss of certain protected rights, including Guaranteed Annuity Rates, Guaranteed Minimum Pension, a protected enhanced lump sum, or rights accrued under a defined benefit scheme. (These are shown in the section “Analysis of Your Existing Pensions”).
Returning to the UK
If you return to the UK, then the QROPS administrator will have to report this ‘event to HMRC and the pension scheme will become subject to UK pension regulations again.
If it is your intention to return to the UK in the near future then a transfer under the QROPS provisions is usually inappropriate. If this was the case then we can help with our UK SIPP offering which may be more appropriate.
When is a guarantee not a guarantee?
By Derek Winsland - Topics: Company Pension Schemes, Defined benefit pension scheme, Final Salary Pension, final salary schemes, France, Pensions, QROPS, Retirement
This article is published on: 15th March 2017
On 20th February, the government issued its eagerly awaited Green Paper on reforming defined benefit occupational pensions, more commonly known as final salary pension schemes. This consultation document invites opinion from the pensions industry for giving the government powers to re-structure the benefits payable from such schemes in instances where the employer (and its pension scheme) are in financial difficulty.
For re-structure, read ‘water down’, as what the government proposes is that the scheme, with tacit government approval, can change the terms by which pensions are paid out to its pensioners.
The catalyst for this green paper is the situation surrounding Tata/British Steel, where the sticking point for any sale hinged on the deficit in the British Steel Pension Scheme. This deficit has been variously reported as between £300m and £700m and under current rules, any buyer would have to take on responsibility for addressing this shortfall. Negotiations between the trustees of The British Steel Pension Scheme, Tata and the government has resulted in the trustees amending the way pensions in payment are increased annually from Retail Price Index (RPI) to the lesser Consumer Prices Index. Experts believe this will save the pension scheme, on average £20,000 per member.
Fast forward to 20th February and the government now believes this would be beneficial for ALL schemes suffering from deficiencies in its funding to be able to water-down its benefits. But is this all bad news?
In the case of Tata/British Steel, the alternative was for The British Steel Pension Scheme, with £14 billion of assets, to enter the pension industry’s ‘safety net’ the Pension Protection Fund. If a scheme enters the PPF, its pensioners are guaranteed 100% of their pension entitlement up to a ceiling of £37,420 (at age 65), but with annual increases limited to 2.5% pa. For those members, yet to reach pension age, they are entitled to 90% of their pension.
The Tata deal gives its pension members better benefits than they would receive in PPF, and so received the approval of government and the unions.
The deal that Sir Philip Green struck with the Pensions Regulator for the BHS Scheme is structured along the same lines – the £363m that he ‘deposited’ alongside the BHS Scheme, which has entered PPF, will allow for the BHS pensioners to receive better benefits than would otherwise have been paid from the PPF. I say ‘deposited’, because it is a one-off, no-strings attached, contribution by this Knight of the Realm, to keep the Pensions Regulator happy, whilst preserving the number of yachts in his possession.
And the BHS deal adds to the uncertainty defined benefit pension scheme members must be feeling right now. Sir Philip’s ‘deposit’ has been labeled, within the industry, as a Zombie Pension Fund. In essence, it allows employers to deposit a chunk of money in a pot, separate to its pension fund, that will be called on to sweeten the pill if the scheme then enters PPF.
But why would an employer do this? Because a move such as Sir Philip Green’s puts a cap on the employer’s liabilities. If an employer can strike a deal where it can walk away from its continuing responsibilities to its pension scheme members, then it’s going to be attractive. We’re all going to hear a lot more about ‘sustainability’ of pension funds, with its open-ended responsibility and liabilities falling on the employer. This green paper is, I fear, going to open the flood-gates to more deals being struck by employers with their pension scheme trustees.
I may be wrong but I suspect Mergers and Acquisitions activity could reach unprecedented levels if the government gives the nod to these pension changes.
If you have preserved pension benefits held in a defined benefits pension scheme and would like to find out more about your pension entitlement and its funding position, then please contact me direct on the number below. You can also contact me by email at firstname.lastname@example.org or call our office in Limoux to make an appointment. Alternatively, I conduct a drop-in clinic most Fridays (holidays excepting), when you can pop in to speak to me.
Our office telephone number is 04 68 31 14 10.
For people in all walks of life, retirement can be an uncertain prospect. At the very least it raises all kinds of questions concerning personal financial stability and the maintenance of living standards.
For those whose work takes them to a number of different countries during their career, the uncertainty is increased.
Until recently, retirement plans have traditionally offered a restrictive and inadequate package which was expensive to implement and complicated to arrange.
Most people require a simple yet flexible retirement benefits package, offering the possibility of a secure and prosperous retirement. An investment programme that allows you to decide exactly what you want and when you want it, how much and which type of protection you feel is appropriate for your own personal circumstances.
A plan where you can have the flexibility to take it with you from employer to employer and country to country, where you can increase or decrease, or even temporarily suspend, payments. You want to choose at what age you wish to retire and chose how you wish to receive your money on retirement.
Flexibility and choice are the key words to most people when they start a retirement plan. Gone are the days when you worked for one company for 40 years, religiously paying into the company pension scheme. It is each individual’s responsibility to make sufficient provision for their retirement and which route to take to achieve future financial security can be a complicated search of bewildering facts and figures when comparing products available.
To get personal and confidential advice regarding your retirement provision, it is necessary to discuss your own individual future financial needs, together with your full financial planning objectives.
UK PUBLIC SECTOR PENSIONS, BREXIT AND ITALIAN CITIZENSHIP
I was watching a nature documentary with my son the other day and we were watching the foraging activities of grizzly bears in North America.
It was interesting from the perspective that they will forage across huge distances in search of different food types to ensure they get the proteins, minerals and vitamins they need to stock up for the long winter ahead of them.
In some ways this behaviour reminded me of the foraging that I sometimes embark upon, across the internet, to ensure that you have all the information you need to weather the seasons ahead. We have lived through some spring and summer seasons, metaphorically speaking, but politically we seem to be entering autumn and possibly winter, depending on your point of view of course. I imagine for those people I know who voted BREXIT, that this is a new dawn. However, I will stick with my view for the purposes of this blog.
I was foraging through the internet last week in search of some information on UK pensions and happened to stumble across an Italian fiscal website which had a summary of the Italian tax treatment of pensions from around the world.
To my surprise, my eyes fell across the following statement in relation to pensions paid from Argentina, UK, Spain, the USA and Venezuela:
‘Le pensioni private sono assoggettate a tassazione solo in Italia, mentre le pensioni pubbliche sono assoggettate a tassazione solo in Italia, se il contribuente ha la nazionalità italiana.’
WHAT DOES THIS MEAN?
In short, and what caught my eyes was specifically in relation to the tax treatment of public section pensions in Italy.
…….le pensioni pubbliche sono assoggettate a tassazione solo in Italia, se il contribuente ha la nazionalità italiana.’
(Public sector pensions would be those defined as local Government, doctors, nurses, police, firemen, armed forces, teacher etc).
If you are a holder of one of these types of pensions and are resident in Italy, you will likely know that under the double taxation treaty with the UK, in this case, that public sector pensions are only taxed in the UK, for those who are no longer UK resident and are therefore not subjected to taxation in Italy.
However, the above statement implies that if you are an Italian national then this pension would be taxed in Italy. (Taking into account any double taxation credit that would need to be applied). Therefore, Italian tax rates would apply and the pension would not benefit from the application of the UK personal allowance, in Italy, either.
This is clearly important, given BREXIT, and the number of people who were considering or making application for Italian citizenship as a means of resolving the issue of residency. Italian citizenship would define you as an Italian national and tax would apply to a UK public service pension.
DOUBLE TAXATION TREATY
Without wanting to take the words of a website as hard evidence, I did some more foraging and can confirm the words of the double taxation treaty (UK/Italy) as follows:
(2) (a) Any pension paid by, or out of funds created by, a Contracting State or a political or an administrative subdivision or a local authority thereof to any individual in respect of services rendered to that State or subdivision or local authority thereof shall be taxable only in that State.
(b) Notwithstanding the provisions of sub-paragraph (2)(a) of this Article, such pension shall be taxable only in the other Contracting State if the individual is a national of and a resident of that State.
THE BREXIT PROBLEM JUST KEEPS GETTING BIGGER
So, here we have another BREXIT problem which has now arisen as part of further investigation. I would suggest that Italian citizenship, for those with UK civil service pensions, needs to be thought out carefully and planned financially, before any action is taken.
Should you cash in your final salary pension?
Potentially millions of people with defined benefit or Final Salary pensions have seen their transfer values shoot up in the last year.
A transfer value, also known as a CETV (cash equivalent transfer value) can be exchanged for giving up the future projected benefits for your pension. In effect, the company buys back the pension.
Over the last 18 months in particular these values have soared.
In many instances people are being offered tens of thousands of pounds more than a year ago with some even being incentivised by their Pension scheme to leave, with a bonus given for doing so. The main reason for this is that the pension company no longer wants the responsibility of having to pay the pension when you retire. Life expectancy in Europe now is 84/85 and in effect people are living longer, meaning the pension scheme has to pay you longer.
For someone with an annual pension income worth £20,000, it is not uncommon to be offered 30 times that amount – in other words, £600,000 in cash.
However this is not the right thing to do for everybody, and there can be significant disadvantages.
Many people have seen their pension transfer values doubled since two years ago, now making it very worthwhile to re-visit these and see what the best advice would be, given this growth in values.
What is a defined benefit pension and the difference between these and a Defined Contribution pension scheme?
Workers with defined benefit pensions know exactly how much they will receive in retirement. Such schemes are either based on a worker’s final salary, or on their career average earnings. Workers with defined contribution (DC) schemes save into a pension pot, which they then use to buy a retirement income. The size of the pot depends on stock market performance. The reason for the increase in transfer values is continuing low interest rates, and particularly low Gilt Rates. Gilts are bonds issued by the Government to raise money, and the rate/interest of these is a major factor used to help calculate a transfer value for a DB pension scheme.
Pension schemes depend heavily on bond yields for their income, and with yields at record lows, many are struggling to meet their commitments to pay future pensions. So they have been offering larger and larger sums to people who are prepared to give up their pension rights.
Transferring your DB/Final Salary pensions can offer a more flexible retirement income, the possibility of extra tax-free cash and upon death the remainder of the pension can be paid out to any beneficiary’s rather than paying a reduced income only to a spouse/dependent partner and then ending.
However, keeping a DB/Final Salary pension can also offer you certainties such as an income for life with Inflation protection, Risk-free income, which does not depend on the ups and downs of the stock market.
There are currently major uncertainties surrounding Brexit and the UK leaving the EU, particularly for those people living outside of the UK. With the almost constant review and changes of UK pensions laws/taxes and the fact that 90% of UK DB/Final Salary schemes are underfunded, it’s important you review your options and the right decision with your pension.
In all circumstances, you should talk to a professional and have your own pension/situation evaluated and see what the best advice there is for you.
A case study on UK final salary pensions
By Michael Doyle - Topics: Defined benefit pension scheme, Final Salary Pension, final salary schemes, France, Luxembourg, Pensions, QROPS, Uncategorised
This article is published on: 28th November 2016
I was recently asked to review one of my client’s UK pensions.
He had what is known as a Defined Benefits Scheme – more commonly referred to as a Final Salary Scheme.
My client had lost touch with this scheme a few years back and the last update he had from them was in 2006. On this statement the scheme offered him a transfer value of approximately £52,928, otherwise he could remain in the scheme until he was 65 and have a pension commencement lump sum (PCLS) of c. £27,000 and an income of £4,700 per annum.
If he remained in the scheme and took the lump sum and income, in the event of his death there would be no lump sum paid to his beneficiaries although an income payment of around £3,000 per annum would have been paid until the 10th anniversary of his 65 birthday.
On completing a review of my client’s pension I found that the scheme would now offer a transfer value just in excess of £180,000. In transferring this to a Qualifying Recognised Overseas Pension Scheme (QROPS), I was able to offer my client an initial PCLS of £45,000. This still left him with a fund of £135,000. Assuming we can provide a rate of return of 3.5% after charges then the client can have the same income as with his Final Salary Scheme.
Assuming the client only draws down the same £27,000 that his UK pension offered then we would only have to provide returns of 3.07%.
In the end, the client chose the transfer because:
- In the event of his death after receiving the PCLS, the remaining funds could be passed on to his children.
- He only needed the PCLS and not the income at 65. This was not an option under the final salary scheme.
- He can control the level of income he needs going forward (subject to the returns in the funds he was invested in).
With annuity rates being very low at this time, final salary schemes are offering a much higher transfer value and this can be beneficial for both you and your beneficiaries.
To review your pension options today please contact me for a no obligation chat and free analysis on your personal situation.
Pensions Time Bomb
It could be said that uncertainty is the nemesis of good long term financial planning and living in today’s world you could be forgiven for throwing your hat in and tucking yourself away for a few years: Hard Brexit, Soft Brexit, Donald Trump, Italian Constitutional Referendum, German and French elections, the rise of nationalism, and the list goes on.
However, time always marches on and we either get left behind or plan forward. No one has ever complained to me (yet) about finding ways to legally save tax, finding ways to save money, getting better investment returns, or having more money then they had planned for.
So with this in mind I want to return to a subject which I have touched on a few times before but which has been hurled back to the top of the financial planning priority charts: UK Final Salary Pension Schemes.
This article is specifically for anyone who holds any type of corporate final salary pension plan. (It does not relate to the UK state pension or UK government pension schemes, eg Teacher, Doctor, Army etc).
Starting with the bad news
I want to break some bad news to holders of those historically ‘gold plated’, final salary pensions schemes. The schemes that promise you a certain level of income based on your last few years salary level with your employer.
They are no longer gold plated!
This is quite a complex area to try and explain, but let me try and sum it up in a nutshell.
When the population starts living longer and the pension scheme can’t ask anymore contributions from the new members (without crippling them financially), then the cost of looking after the existing retirees for a much longer time than the scheme had anticipated (due to medical advances), becomes much greater than the net new money being put into the scheme.
If this were a family, it would be in debt. A mortgage, it would have defaulted. A company, it would have gone bankrupt.
Another problem is that these pension schemes need such a secure income stream to pay the retirement incomes of the retirees that they have to invest the scheme assets in safe, but incredibly low yielding asset such as Government Bonds.
And there you have the problem. If you make very attractive promises to retirees, based on your calculations many years ago, but the financial landscape changes dramatically during that time, then your original calculations are now totally obsolete. More money out than coming in spells TROUBLE!
If you want to know how bad this situation is, then take a look at these figures. (These show the market value of the company in billions, versus the liability of their long term pension obligations, ‘IN BILLIONS’. The figures are staggering)
These are the worst in the UK. If these companies had to legally honour their pension liabilities, they would be bankrupt.
But, let’s not be silly about things. The Government would never let companies like this go bankrupt, so they allow them to continue to operate the pension funds off their balance sheets.
And, to make it even more enticing they allow them another ‘get out clause’…outright default!, right into the UK Pension Protection Fund. A UK Government run scheme which guarantees to pay the pensions (up to certain limits) in the event that the company says it can no longer do so.
The burden moves to the taxpayer!
However, as low interest rates and retirees living longer wreck their long term calculations, more and more pension schemes are opting to close down and place their members under the Pension Protection Fund. As more and more members apply, the burden becomes greater on the UK public purse. Do they cut the maximum amount of pension you could receive? What about the benefits you might lose?
These are all very serious questions for people who are currently members of final salary pensions.
However, there is some potential light at the end of the tunnel. A transfer away from the scheme, with a lump sum from which you can invest and take income from, as though you had your own personal pension.
The advantages and disadvantages have to be weighed up but with more schemes in financial difficulty there is a distinct possibility that it might be worth your while.
NOW! is the time to find out the value of your pension
Low interest rates and stress on the pension fund means that transfer values out are at historical highs. The companies are happy to rid themselves of you and will pay handsomely to do so, and the low interest environment means the transfer out values are much higher than you might imagine.
But low interest rates will not continue forever. Brexit and the fall of GBP will create inflation and that means interest rates will have to rise.
Get the information now before it is too late
Lastly, let’s leave things on a good note. If the benefit of transfer out is clear and present after an analysis of the situation, then you can also pass your income onto your spouse/partner, and/or leave the asset to your family on death. The benefits are not lost when you die.
There are benefits on both sides of the argument and we provide a FREE analysis to advise our client whether to transfer or not. If you want to look into this area of your retirement plans and potentially secure your long term income stream, then you can contact me
Should you consider transferring your Final Salary Pension?
A big question and something that raised a lot of interest at our recent Tour de Finance event that took place at the Domaine Gayda. There have been a number of recent changes within the UK economy and the UK pension world that make a review of any pension(s) essential for those living or planning to live outside the UK.
Final Salary pension schemes (also referred to as Defined Benefit schemes) have long been viewed as a gold plated route to a comfortable retirement. However, there is wide opinion now that there are likely to be large changes ahead in the pension industry. The key question is will these schemes really be able to provide the promised benefits over the next 20+ years?
Why Review now?
Record high transfer values
The calculation of transfer values from these types of scheme is complex. One of the factors that determines how much the pension scheme has to pay to transfer a Member’ benefits is gilt yields, which are at an all-time low. This has resulted in transfer values to be at an all-time high and we are finding that some transfer values have increased by over 30% in the last 12 months.
Actuaries Hyman Robertson now calculate the total deficits on the remaining UK final salary pension schemes as £1 Trillion! Since the employers are ultimately responsible for funding the cost of the pension benefits, unless they have very deep pockets, this puts the security of the benefits at risk.
The final salary pension schemes of these two companies have been in the news. These recent examples show that the very large deficits of their final salary pension schemes cause a number of problems; in particular no one wants to purchase these struggling companies as the pension deficits are too big a burden to take on.
Could the Government be forced to change the laws to allow schemes to reduce benefits? A reduction in the benefits will reduce the deficits and make the companies more attractive to purchasers. There is a strong argument that saving thousands of jobs is in the national interest, if that just means trimming down some of these “gold plated benefits”.
Pension Protection Fund (PPF)
This fund has been set up to help the schemes that do get into financial trouble, but two points are key. Firstly, it is not guaranteed by the Government and secondly the remaining final salary schemes have to pay large premiums (a levy) to the PPF in order to fund the insolvent schemes. As more schemes fall into the PPF, there are less remaining schemes that have to share the burden of this cost. Their premium costs will increase, as there will be less remaining schemes to fund the PPF levy.
It is likely the PPF will end up with the same problems as the remaining final salary schemes, as it is unlikely to have the money to pay the “promises” for the pensioners. Additionally, the PPF will most likely have to reduce the benefits they pay out.
Pension changes that have already happened
Inflationary increases have already been allowed to change from Retail Prices Index (RPI) to Consumer Prices Index (CPI). This change looks reasonably small, but over a lifetime this could reduce the benefits by between 25% and 30%.
In April 2015, unfunded Public Sector pension schemes have removed the ability for transfers, so schemes for nurses, firemen, army personnel, civil service workers etc. can no longer transfer their pensions. Now these are blocked, it will be easier to make changes to reduce the benefits and no one is able to respond by transferring out of the schemes.
When this rule was being considered the authorities also wanted to block the transfer of funded schemes, i.e. most final salary schemes that are available. This could come back onto the discussion table in the future.
Autumn Statement (Budget)
This is on 23 November 2016. Could the Government make any further changes to UK pension rules? When Public Sector pensions were blocked, there was a small window of time to transfer. However, most people couldn’t get their transfer values in time as the demand was so high. People who review their pensions now may at least have time to consider options.
Could Brexit end the ability to transfer pensions away from the UK?
Reasons why schemes are in difficulty:
People now expect to live around 27 years in retirement, when these schemes commenced the average number of years in retirement was 13 years.
Lower Investment Returns
Investment returns have not been as high as expected. Also there has been a very large reduction in the amount invested in equities in final salary schemes; this is now around 33%, but in 2006, the average equity content was 61.1%.
Benefits were too good
Simply, many of the final salary schemes were ‘too good’. In 2009, around 24% of employees’ salaries was needed to fully fund final salary schemes that provided the standard level of benefit of 1/60th for each year of pensionable service. In 2016, that rate is now 50%! Clearly, it is unrealistic to expect an employer to meet the liability.
What could happen in the Future?
- An end to the ability to transfer out of all final salary schemes?
- Increase the Pension Age, perhaps in line with the increase of the State Pension?
- Reduction of Inflation increases, (already started as many now increase by CPI instead of RPI)?
- Reduction of Spouse’s benefit?
- Increase of contributions from current members?
- Lower starting income?
Act now! Review your pensions.
It does no harm at all to at least have a review of your pensions. In fact, it is prudent to do so. At The Spectrum IFA Group, we carry out a full transfer analysis, which is in accordance with the UK Financial Conduct Authority rules, before making any recommendation to transfer pension benefits. Doing nothing at all can often be an expensive mistake.
The above outline is provided for information purposes only and does not constitute advice or a recommendation from The Spectrum IFA Group to take any particular action on the subject of pensions, investment of financial assets or on the mitigation of taxes.
The Spectrum IFA Group advisers do not charge any fees directly to clients for their time or for advice given, as can be seen from our Client Charter .