To transfer or not to transfer? The pros and cons of moving your pension
Since the arrival of pension freedom, individuals in defined benefit (DB) pension schemes have the option to transfer into a defined contribution (DC) pension scheme, as long as they have not already started to take income from their pension.
The pension provider Royal London* has produced a useful guide to transferring your DB pension, and we’ve highlighted the key points which say that there are five reasons why you might want to transfer your DB pension…and five reasons why it might not be a good idea.
The views expressed in this article do not constitute financial advice and neither promote or discourage pension transfers. The Financial Conduct Authority is clear that a sensible starting point is the assumption you are likely to be worse off if you transfer out of a DB scheme.
Five good reasons to transfer
If you transfer your money from a DB pension into a DC pension you have much more choice about how you use your money. You can decide how you want to spread your income through your retirement rather than having a rigid amount throughout.
2. Potential access to more tax-free cash
You can take up to 25% out of a pension tax-free. However, with some DB pensions, you can take less than this. If you transfer to a DC pension, you may be able to take more money out without paying tax on it.
If you transfer your pension the value of the assets in the pension or investment could pass onto your heirs when you die. If you die before the age of 75 then there will be no tax to pay on the cash balance left for your successors. With a DB pension scheme there may be a ‘spouse’s pension’ but the amount may be limited.
If you suffer from poor health you may be better off transferring to a DC pension. The amount you’d be able to transfer would be based on average life expectancy rather than how long you’d be likely to live for. This means you should get a bigger amount of money to spend.
5. Concerns about your employer’s financial health
If the employer who sponsors your final salary pension scheme is at risk of going bust you may not get all of the pension you were expecting. The Pension Protection Fund would step in, however, it won’t necessarily pay the full pension that you’re entitled to.
Five good reasons not to transfer
If you happen to live longer than average then a DB pension lasts as long as you do. If you transfer your pension and manage it yourself you are taking on the uncertainty about how long you are going to live.
A DB pension will give you better inflation protection and greater certainty. If you transfer your pension, you’d have to factor in the potential impact of rising prices over the course of a long retirement and make provisions for it yourself.
3. Investment risk
If you are in a DB pension scheme the ups and downs of the stock market make no difference to the amount of pension you receive – the scheme still has to pay your pension and the employer has to bear the investment risk. When you transfer your pension you are transferring investment risk onto your own shoulders and what you have to live on will depend on what it is invested in.
4. Provision for survivors
DB pension schemes will normally pay a pension for your spouse and some schemes will offer benefits for dependent children. If you transfer your pension the amount of money you would get to reflect survivor benefits would probably be well short of what you would need to buy equivalent benefits as an individual.
If you have a large pension pot there could be tax consequences of switching your pension. Under current tax rules, you can build up a pension of £1 million and not have to pay tax charges on it. If you have a DC pension then it is based on the value of the fund being £1 million or more. For DB pension schemes a different (and more generous) process applies. The amount of pension is multiplied by 20 and any tax-free lump sum is added in. the result is then tested against the £1 million threshold.
If you are thinking about transferring a DB pension, you need to take advice from an independent financial adviser unless the pension is worth less than £30,000. Transferring from a DB pension to a DC pension is an important decision, so make sure you understand the implications fully before proceeding.
* To read the Royal London guide in full, click on the following link: https://www.royallondon.com/Global/documents/GoodWithYourMoney/COMPANY-PENSIONS-FIVE-REASONS-TO-TRANSFER-OUT-AND-FIVE-REASONS-NOT-TO.pdf
If you would like advice on whether to transfer your pension please contact Mike Wall below: