Following an analysis carried out by the UK Financial Conduct Authority (FCA), the prevalence of unsuitable advice and conflicts of interest in the pensions transfer market has led to increased scrutiny of independent financial advisers (IFAs) and an FCA market-wide consultation with a view to improving standards within the market.
Major changes to the pensions tax legislation in 2015 have made it more attractive for members of defined-benefit (DB) pension schemes to cash in their DB pensions by exchanging them for defined-contribution (DC) benefits. This allows the members to take their benefits in a number of flexible ways, including taking their entire pension in the form of one or more cash lump sums. This trend has raised concerns that individuals will be left with a lower retirement income, and risk running out of money in old age.
In 2017, the FCA found that less than half of those seeking pension transfer advice received appropriate advice. In June 2019, the FCA gathered market-wide data on the size and value of the DB pension advice market. The results showed that most of the DB pension scheme members who had received advice to transfer their pension had been recommended to do so by an IFA. Despite this, according to the FCA, 'too much advice is not of an acceptable standard'.
In light of this increased regulatory scrutiny, IFAs advising on DB to DC transfers (and employers instructing IFAs for the benefit of their employees) need to be cautious about the suitability of the guidance provided in connection with such transfers going forward.
The FCA has concluded that one of the primary drivers behind the lack of quality advice is the prevalence of conflicts of interests arising out of the contingent basis on which IFAs are remunerated (ie the advice is only charged if the transfer takes place). In order to address these conflicts, the FCA is proposing (among other measures) to ban contingent charging arrangements in most cases and where contingent charges are permitted, they are to be quoted at the same rate as non-contingent charges. IFAs should be alert to these proposed changes, in order to ensure that best practice is followed.
A high-profile example of the dynamics at play in this market is the restructuring of the British Steel Pension Scheme in which members with defined benefit pensions were asked to make complex decisions about transferring their pensions within a short timeframe (known as the 'time to choose' exercise), with one of those options being a transfer to a DC scheme. Members were required to take advice from an IFA before making a choice, but a large number of members took the DC transfer option.
The restructuring led to a government inquiry and several other reviews, one of which (PDF) found that the time to choose exercise had 'landed in an atmosphere of mistrust and misinformation'. It was also found that IFAs may have been incentivised to provide poor advice given the contingent nature of their remuneration structure.
In December 2019, the Financial Services Compensation Scheme (FSCS) disclosed that it had received 86 complaints from members of the British Steel Pension Scheme. Of those, 74 have been upheld with the average claimant receiving around £32,400 in compensation.
The FCA has said that it wants suitability of advice in the pension transfer market to reach the same standard as the wider financial advice market (where advice is suitable in around 90 per cent of cases). The changes that the FCA has proposed remain under development as the FCA continues its consultation process.
It was anticipated that the FCA would publish its finalised handbook text in a policy statement at some point within the first quarter of 2020, but this has now been postponed as a result of the coronavirus crisis. The FCA has also delayed the publication of its proposed changes to the DB pension transfer rules until October 2021.
Despite the delays, it is clear that the current pandemic has not led to a disappearance of this issue. In fact, COVID-19 might have quite the opposite effect as individuals faced with reduced income, job losses or business difficulties look for access to additional cash.
The Pensions Regulator (TPR) published some recent guidance on this topic and expressed that these are 'worrying times' for pension scheme members. Against the current backdrop, we may see a significant increase in members seeking advice as a result of market volatility, concerns around employer solvency and a potential increase in scams.
TPR has warned against members making hasty decisions which they may later come to regret. It has asked trustees specifically to actively monitor the number of cash equivalent transfer value requests they receive and, importantly, which advisers are supporting those requests. Likewise, the FCA has released further guidance on the potential impacts of coronavirus on DB to DC transfers, urging IFAs to uphold high standards in relation to the quality of advice given.
A recent House of Commons briefing paper on pensions transfer advice reiterated the problem. Both the Financial Ombudsman Service and the FSCS have reported rising levels of pension complaints. Some have speculated that there might have been a 'multibillion-pound mis-selling scandal' relating to this type of advice and the full extent of the problem might only come to light in the event of an economic downturn, when the implications of a decision to switch might become clearer to members.
We think it is fair to say that this is an area fraught with risk not only for IFAs but potentially also for other parties such as employers who have engaged IFAs to support employee decision making in this area.
It remains to be seen whether class actions or other forms of legal redress will take-off as a result of the increased regulatory scrutiny in this area and disgruntled DB members experiencing 'buyer’s remorse' as a result of the pandemic. We may know the answer sooner rather than later.