Defined Benefit (Final Salary) Pensions
July 4, 2017
The majority of people who have been fortunate enough to be a member of a defined benefit (also known as ‘final salary’) occupational pension scheme would never think about giving it up. After all, there is not much wrong with a guaranteed, inflation-linked income, for life.
However, some individuals may be more concerned about the future stability of the scheme, inheritance tax and the amount of income tax they pay rather than the prospect of running out of money. For such people the higher transfer values currently available from defined benefit schemes may give them more options.
There are three factors that are driving up transfer values but the first, falling interest rates from UK government bonds, known as gilts, is having the greatest impact.
Falling gilt yields – The economic uncertainty produced by the vote to leave the EU and subsequent election result, has seen investors moving into safe havens; gilts have been a major beneficiary of this trend. The increased demand has pushed prices high and as a result reduced gilt yields to historic lows. With the lower expected future returns from gilts, pension schemes have had to assume higher current values to provide the guaranteed future benefits – which in turn have resulted in higher pension transfer values. With Brexit expected to be no earlier than March 2019, these conditions could continue for some time.
Lower expected investment returns – We currently live in an economy with low inflation and low interest rates. In addition, defined benefit final salary based pension schemes are paying out more of their funds in retirement benefits to pensioners. As a result, they are expected to take less investment risk by reducing the proportion of their funds in equities and switching to gilts and fixed interest stocks which in turn, limits the investment growth due to the low interest rates currently seen.
Improved life expectancy – Life expectancy at older ages in the UK has risen to its highest ever level. This is a generally welcome development, but it can be a headache for pension schemes that must now expect to pay pensions for longer. This is again reflected in higher transfer values offered by the pension schemes.
As stated at the start, what most people want is a guaranteed and increasing income for life, particularly when they are faced with living longer and getting lower investment returns. But for those with enough wealth to be really confident about their own future financial security, the present transfer values could open up other avenues for consideration.
If you are considering transferring out of your final salary scheme, and many schemes are actively encouraging members to do just that, make sure that you seek independent financial advice first.
It may be to the scheme’s advantage for you to transfer out, but whether it is the right decision for you will depend on your objectives and wider financial circumstances.
If you would like to discuss your options in more detail or you would like to speak with a member of our team, please contact Gareth Davies or call on 01772 821021 to be put in contact with a member of our Financial Planning team.