As financial planners, you’ll know only too well the efforts the Financial Conduct Authority (FCA) has made to regulate the transfer of defined benefit (DB) pensions.
While all eyes have been on the FCA’s attitude to DB transfers, you may have missed the fact that the regulator has pledged to start scrutinising defined contribution (DC) transfers as well. The only reason it’s not yet started is the Covid lockdown, but once we are on the other side of the pandemic expect the regulator to carry out its promise.
When the FCA asks for samples of DC switches in the not-too-distant future, which it will, it’s likely a high proportion of them will be returned as “unsuitable”. A key reason for this will probably be because not enough attention was given to your client’s workplace pension scheme, something the FCA is now cracking down on.
Those who deal with defined benefit transfers will already look at their client’s workplace schemes in detail, yet the same level of consideration is typically not given to DC switches.
Read on to discover why this might be so, and to learn how you could improve the way you deal with workplace pension schemes as part of a DC switch.
Considering workplace schemes has always been a requirement with DC switches
Contrary to popular belief, when recommending a DC switch there has always been a requirement to consider workplace pensions as a receiving scheme.
That said, the financial services sector has tended to believe the FCA only takes this into account for DB transfers, when in fact it does not distinguish between the two.
With this in mind, when the FCA asks to see samples of DC transfers, there’s likely to be a high proportion found to be unsuitable because workplace pension schemes were not considered in enough detail.
The FCA’s findings could be so severe that the financial services industry experiences a repeat of the DB scandal that has tarnished its reputation. While it’s going to be nearly impossible to rectify the issue with DC transfers that have already completed, you could do something going forward.
The following are the most common four reasons for dismissing workplace scheme, and how we feel the authority could view it if you continue to use them in your recommendations.
Evidence you have considered workplace pensions for DC switches
At the moment, financial planners dealing with a DC transfer generally use the following reasons to discount workplace pension schemes:
1. The lack of flexibility with a workplace pension, which could include the inability to offer flexi-access drawdown.
2. A workplace pension is a “one size fits all” solution, not an investment that’s been designed around the client’s attitude to risk and retirement goals.
3. A non-workplace pension could provide your client with greater control, as they can work with you to regularly assess and alter the fund as they need to.
4. Workplace pensions offer a restricted amount of funds, which could limit growth potential.
So, let’s look at each one of these reasons in more detail, and whether they are likely to be accepted by the FCA.
1. Lack of flexibility in a workplace pension
The lack of flexibility of a workplace pension may be an issue if your client is approaching retirement. For example, if they need flexi-access drawdown and it’s not available, then that’s likely to be a reasonable reason to recommend a non-workplace scheme.
However, if you were to place pension in a non-workplace scheme while it’s in accumulation stage, the FCA may take a dim view. As workplace pensions are inexpensive, the pot may have a greater chance of building over time, making it much more difficult for you to justify a non-workplace scheme.
In addition to this, certain workplace pensions such as stakeholder pensions do provide flexi-access drawdown, so be sure to double check before dismissing it. Not doing so is likely to result in an “unsuitable” verdict should the authority investigate.
2. Workplace schemes are “one size fits all”
While the idea of creating a “bespoke pension” tailored to your client’s attitude to risk and circumstances may seem like sufficient reasoning, be careful. Workplace pensions typically offer a choice of risk profiles for the employer to choose from, so giving this as a reason may result in a rejection from the FCA.
The only time a bespoke pension is likely to be more appropriate is if the client has a specific goal that cannot be provided by the workplace scheme, such as a desire to invest in Environmental, Social and Governance (ESG) funds.
If you are going to recommend a bespoke DC scheme instead of a workplace scheme, ensure you provide detailed research and justification for it. Be sure to explain this clearly in the suitability letter and back it up with detailed notes in the fact-find.
3. Non-workplace pensions provide greater control
While a non-workplace pension may mean your client has access to you and can therefore discuss the pension’s performance and make changes where necessary, care needs to be taken.
This is because the additional cost of your ongoing advice charges could result in the FCA questioning whether it’s the best “value for money” option for the client.
A common mistake financial planners make is to find a tracker fund that charges less than the workplace scheme and recommend it on the basis of cost. What often happens though, is that the ongoing advice fee together with the costs associated with the tracker total more than the workplace scheme.
This is highly likely to result in an “unsuitable” verdict if the FCA looks at it.
4. Variety of investments may not be a reason to dismiss a workplace scheme
You may feel that another reason to discount a workplace pension as a receiving scheme is lack of fund choice. If this is the case, be very careful and ensure you can justify and demonstrate this.
To demonstrate why, let’s look at a situation that happened recently.
A financial planner recently recommended a DC transfer, giving lack of funds as one of their key reasons. When we carried out research into this, it turned out the workplace pension was outperforming the fund being proposed.
There can be an assumption that workplace pensions perform poorly due to limited choice. In truth, this is not necessarily the case, and thinking that it is could result in an “unsuitable” should the FCA investigate.
Get in touch
As paraplanners, we can work with you to ensure your DC transfers will stand up to scrutiny from the FCA. As our work remit can be wider than just the suitability letter, and can include your administration and advice processes, we can deliver a system that protects you and your business from potential complaints and investigations.
If you would like to discuss further how we can help you with this, please contact us online or call on 01472 728 030.