Gold-plated pensions – the key to retirement freedom?

With some people are weighing up whether they will be better off cashing in their final salary pension next spring, Samantha Downes asks the experts

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The Independent Online

Next year thousands of investors are expected to take advantage of changes that give them pension freedom.

No longer will they have to buy an annuity, or have a drawdown pension plan in place; from the age of 55 they will be able to take some or all of their pension fund in cash and spend or invest it whenever and wherever they wish.

The changes mainly affect those with personal pensions or defined contribution (DC) workplace schemes – ones where both employer and employee pay in – and will take effect from 5 April 2015.

When the changes were first announced, the general consensus was that those in a defined benefit (DB) pension fund – also known as a final salary scheme – would not need to take advantage of the changes. Final salary pensions pay out an income calculated as either a percentage of the last year’s salary or an average of the worker’s income over the period of employment.

Scott Mullen, director at the comparison service My Pension Expert, said that because these schemes often come with additional benefits, such as inflation-proofing and a spouse’s pension, they are considered gold-plated and pretty much better than any other retirement scheme or pension plan going.

Alan Higham, director of retirement at the investment manager Fidelity, said members of public service final salary schemes such as teachers, NHS employees, civil servants and those in the police, fire service and armed forces will not be allowed to transfer their pension because of the cost to the public purse.

Mr Higham added that most members of private final salary schemes will be better off staying there. But he said there are a number of investors who might find it worth while to transfer their pension pot to a defined contribution scheme, including a self-invested personal pension, to take advantage of the changes.

Reason one for transferring from a final salary scheme: not married but with children

Gary Smith, a financial planner and pension transfer specialist at Tilney Bestinvest, said final salary pension members who do not have a spouse and would like their children to receive some of their pension fund after their death might be better off transferring out.

He explained that final salary death benefits tend to be very restrictive. For example, they typically offer reduced pensions to partners or financial dependants – such as children up to the age of 23 – and only pay out if the member dies within a few years of taking out the pension. “Transferring into a self-invested personal pension could mean the individual could receive a completely flexible income and their children could receive the remaining fund value at their death,” Mr Smith said.

“We await confirmation of the new death benefit rules in the autumn statement next month.”

Reason two: you have other pension income

If you have other pension arrangements, or assets or income that can be used, it may be worth working out whether you would be better off releasing your DB cash.

Mr Smith said pension members should seek a cashflow analysis report from a financial planner first.

Don’t forget your final salary scheme is most likely linked to inflation. “A fixed annual increase of 5 per cent – which is not uncommon – will result in the pension payment doubling every 14 years or so,” according to Mr Smith.

Reason three: you are in poor health

This is a key factor, as final salary schemes tend to pay out an income that increases with age. Mr Smith said that if a member has a terminal illness, the transfer value provided might exceed the value of the death benefits from the final salary scheme, so a switch could make sense.

Mr Mullen added: “If someone is ill, the guaranteed, generous but inflexible income of a final salary pension is not as crucial as it is for people who want their index-linked pension to still be paying out 30 years later.”

So should you transfer?

Anyone considering switching out of such a generous pension scheme has to take advice – something that has been built into new rules, with people  being required  to speak to a financial adviser specialising in pensions.

“Do pick your adviser carefully,” Mr Higham said. “If the transfer is more than £30,000, you must pay for advice before being allowed to transfer.

“The adviser must have a recognised, specific professional qualification and be authorised to give the advice by both the Financial Conduct Authority and often the company they work for. Insist on proof that the adviser is qualified and get that checked by calling the FCA.

“Choose a firm with deep pockets and that is likely to be around for many years – to pay you if they mess up.”

Decision for life - points to remember

Risk: Once you’ve made your final salary transfer, there’s no going back – and your guaranteed income for life will have gone. “While they remain in a defined benefit scheme, final salary members do not need to make investment decisions,” said Gary Smith at Tilney Bestinvest. “However, if they were to transfer into a personal pension, they would have to invest the money, and investment risk can result in funds falling as well as increasing – and they might have very little experience of investing and the associated risks.”

Cost and timing: Transferring your pension will not be cheap. Mr Smith estimates that upfront fees could range from £1,000 to £5,000 depending on the work involved, and if you need to keep investing your money, you will also need to pay advice fees on a regular basis.

A typical transfer analysis and review of the defined benefit scheme can take months to complete, so if you are considering it, you may need to act now.

Final salary schemes also have complex rules; some will not allow members to transfer out when they are within one year of the normal retirement date for that scheme.

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