The first lines of the famous Guy Fawkes nursery rhyme say: ‘Remember, remember, the fifth of November, gunpowder, treason and plot.’ If you were to rewrite it for advisers, the first of October is when things are set to go off with a bang.
Today is the FCA’s ban on contingent charging for defined benefit transfers takes effect. Over the past few years, no other market intervention has generated such fiery debate among IFAs.
The regulatory journey to this day has also been a painful one for thousands of individuals caught up in the British Steel Pension Scheme scandal and the hundreds of IFAs who have left the sector. Many of these IFAs feel they have done nothing wrong and a handful of rogues have tarnished the profession’s reputation for years.
The subject has been given an extra edge with the Covid-19 pandemic, as a perfect storm could be brewing. Harsher measures were reintroduced by the government in September in response to a second wave of the virus.
A 1980s-style surge in unemployment is still likely, even though the furlough scheme is being replaced with the Job Support Scheme. Anyone who is fortunate enough to have a DB pension and is near retirement might have to access it out of necessity. There have already been reports of pension schemes such as British Airways bracing for a wave of transfer requests from October.
The pandemic makes what might happen in the future harder to predict. But even without the pandemic, the regulator’s new rules for transfers are set to turn the market on its head.
Changing landscape
The FCA confirmed the contingent charge ban and several other rule changes in a policy statement (PS20/6) on 5 June. Advisers will be forced to compare a fund’s destination with a workplace pension, undertake specific professional development for transfer specialists, and can now use ‘abridged advice’ to triage out unsuitable candidates for transfer.
The watchdog also published a guidance consultation (GC20/1) that sets out best practice and case study examples of suitable and unsuitable advice.
A key FCA objective is to reduce the number of unsuitable DB transfers. Office for National Statistics data suggests almost £10bn was transferred out of DB pensions in the final quarter of 2019, up from just over £5bn in the previous quarter (see table).
Up to 745 advice firms gave up their transfer permissions in the run-up to the final policy statement on the back of extensive FCA supervision work. Money Marketing has established that 193 firms gave up their permissions to advise on transfers between 5 June and 9 September 2020.
While the FCA says it cannot confirm whether advisers changed those permissions specifically because the contingent charging ban was coming in, the regulator’s tightening outlook would surely have impacted some firms.
But what about other areas of concern, such as unregulated introducers and how vertically integrated firms – those that own the funds and platform as well as the advice – are doing transfers? Some respondents to the FCA’s proposals expressed fear they would not stop payments to unregulated introducers or vertically integrated firms cross-subsidising their advice arms through recommendations into in-house products.
Expert View
The FCA needs to tie up loose ends with further guidance
There are many kinds of vertically integrated firm and there will be different impacts on each of them. Quilter’s DB review advice process has for some time followed a model similar to abridged advice and we are not expecting a material impact on our performance as a result of the contingent charging ban.
Any introducer fee can no longer be ‘contingent’ on a transfer being recommended, and once referred and full advice is provided, the introducer fee will be payable whether a transfer is recommended or not.
Whether an introducer’s fee is payable may affect the choice of adviser to which the introduction is made.
Additional guidance is always welcome, but the guidance had three clear reasons for not prioritising a workplace pension scheme: There was none available, it would not accept transfers in, or the client would be accessing funds within 12 months and the workplace pension scheme would not offer this.
The fourth reason for discounting was based on the client having a history of self-investing or taking ongoing advice and might be more subjective. This would be an area where the FCA could expand its finalised guidance with some good and poor practice examples, as it is more open to interpretation.
We think the policy statement addressed the concerns expressed in our feedback to CP19/25. But it would be beneficial for firms if the FCA published the finalised guidance from its guidance consultation GC20/01 (issued the same day as the final PS20/6) as soon as possible after the 1 October.
Phil Carroll is proposition director of Quilter Financial Planning
Game changers
In the summer, Money Marketing reported on an Edinburgh-based firm that cut introducer fees in response to the new FCA rules.
Expert Pensions Advice Ltd is an appointed representative of Navigate Independent Financial Advisers. On 16 June, it sent an email about immediate changes being made to its introducer agreement. This described the FCA’s policy statement on DB transfers as a “game changer” and a series of “key changes” would follow at Expert Pensions Advice.
These were the application of minimum criteria for accepting new business and using workplace pension schemes as the default investment position. It also said it will conduct an annual post-sale check on initial advice for three consecutive years.
Given the measures above, how has the relationship between advice firms and introducers changed given all the work the FCA has done on transfers?
“Effectively very little,” Expert Pensions Advice adviser John Reynolds says. “On the whole, IFAs recognise that having a good firm to refer DB advice into is a useful option to have. Most IFAs have been understanding about the new rules and appreciate that a good firm giving unfettered and independent advice for their clients makes sense. They want us to do well and continue in business. We have actually seen an increase in business since we stopped paying introducer fees.”
The firm has a clear process for identifying those clients who can be considered eligible for the carve outs from the contingent charging ban, where firms can still charge contingently if a client has significant debts or is unwell.
Reynolds adds: “We only take debt cases referred back to us from a debt charity that we have referred them to initially. There the client gets genuine and expert debt counselling.
“And for ill-health cases where there is a genuine, significant and proven reduction in life expectancy, we will assess their pension options appropriately. For those clients with a sore back, we will refer them to their GP for some paracetamol.
“IFAs know this is high-risk and high-stakes and needs to be done properly. We have seen significant support across our whole register of introducers for what we are doing.
“Currently, our data analysis confirms we provide regulated advice to around 40 per cent of the referrals made into our business. We don’t expect that to go up in any shape or form in the near future.”
Money Honey Financial Planning managing director Jane Hodges says her firm had previously worked with introducers when it was giving DB advice, but rarely paid any introducer fees.
“They were either going to be the ongoing adviser or would be charging for their own services directly,” she says. “I have always found that they were interested in providing the right service to their clients. We effectively had non-contingent fee charging for the majority of our advice anyway.”
Will introducers refer clients to advice firms if they do not get a fee?
Hodges says: “That depends on what type of introducers they are. If they are just looking to make sure their clients get the right advice and outcomes, then why wouldn’t they?”
Adviser view
Town Close Financial Planning managing director Jeremy Askew
If these changes do not reduce transfers significantly then [the FCA] will come up with more new rules, I imagine.
We often find workplace pension schemes are very inflexible on income options, have limited investment options and often are not cheaper.
Sometimes the workplace people are not used to dealing with advisers and the administration of more than one pension pot can be a real headache. We do not introduce or accept introductions.
Coping with conflicts
Money Marketing went to the largest vertically integrated firms and asked them how their models will be affected by the rules. Quilter Financial Planning, Standard Life Aberdeen’s advice arm 1825 and Schroders Personal Wealth responded to our questions.
Quilter and 1825 say the contingent charging ban will not affect their business model to any great degree. Schroders said it thinks the ban will actually benefit consumers.
1825 head of proposition and private client management Colin Dyer says: “We don’t anticipate any significant impact due to the ban on contingent charging. We have always operated a model where we charge for advice on DB transfers, regardless of the outcome being to retain benefits in the scheme or transfer out.
“We supported the ban when it was proposed in CP19/25, although we saw a potential benefit to clients if firms were allowed to offer a separate advice and implementation fee, provided the advice fee was representative of the work carried out.”
Schroders Personal Wealth head of compliance Nicholas Evans-Rakowski adds: “We think this is a positive change…. Customer trust is vital to building a long-term sustainable business, alongside the provision of high-quality advice that really helps consumers meet their objectives and provides them with the comfort and support of having professional support.”
FCA on Covid-19 and DB transfer carve-outs
- Transfers are not automatically suitable for an individual who meets the tests to qualify for one of the carve-outs.
- We expect only a minority of consumers to be charged contingently under the carve-out provisions and these exemptions from the prohibition on contingent charging should occur only in the specific circumstances described in the rules.
- The carve-outs aim to identify certain groups of vulnerable consumers in circumstances that make pension transfer advice particularly worth considering.
- They help these consumers access advice they may not be able to afford otherwise.
- Firms must show they have satisfied themselves that the consumers meets the tests, for example acquiring records from a consumer that demonstrate how their financial situation has been managed over time.
- It is not automatically the case that a consumer who has already reached minimum retirement age and cannot work or is shielding due to Covid-19 will meet the tests or is suited to a transfer.
Tying up the loose ends
These responses suggest advisers and firms that have remained in the sector are implementing the new rules without much trouble. But there are some areas that have been mentioned as loose ends the regulator needs to tie up. These include more guidance on when a workplace pension might not be the most suitable receiving scheme. The same stands for identifying the eligibility for the carve outs from the contingent charging ban.
Aegon pensions director Steven Cameron says: “We remain concerned over the emphasis the FCA is placing on recommending transfers into an available workplace pension and investing in the default fund. Advisers recommending an alternative will have to demonstrate why it is not just as suitable, but more suitable.
“The guidance provides an opportunity for the FCA to be clearer on what might make alternatives more suitable. This might include where charges are lower or where the default fund is not a good match to the individual’s age and investment objectives.
“Other factors could include where an individual is planning to go into decumulation soon and the scheme doesn’t offer their intended decumulation options or where the scheme doesn’t facilitate adviser charging and the individual would benefit significantly from not having to pay by separate fee.”
Others share Cameron’s concern about recommending transfers into an available workplace pension and investing in the default fund. Ultimately, they would like the FCA to widen its view of what a suitable destination for a transfer is.
Schroders Personal Wealth’s Evans-Rakowski says: “Most workplace schemes have default funds that offer lifestyling, with reduced equity exposure as the client approaches retirement.
“While this may be appropriate where the client is expecting to take out an annuity, it can reduce returns and may not be suitable for a client targeting drawdown. Given lifestyling can often commence 10 years from the expected retirement date, but the current guidance only provides a clear steer where the client is within 12-months of entering decumulation, there is a mismatch and potential for sub-optimal client outcomes.”
1825’s Dyer would also like the FCA to work further on the assumption that the default fund is always the most suitable option for members.
This is because many will not understand if it is suitable for their needs, or matches their attitude to risk and investment objectives, he says.
He adds the FCA and The Pensions Regulator should drive workplace pension scheme providers to improve member benefits and functionality within schemes.
Key improvements Dyer says 1825 would like to see include improved availability of investment options to members and scheme access for advisers to allow portfolio rebalancing.
Other improvements related to pension freedoms 1825 wants developed are successor drawdown and the ability to facilitate adviser charging from the scheme.
Dyer also argues there is scope to develop abridged advice to help clients who are likely to be better off staying in the DB scheme. He says abridged advice currently requires advisers to complete a full ‘know your customer’ exercise, akin to when full advice is provided. A pension transfer specialist is also required to check the abridged advice.
Dyer adds: “Many of the elements the FCA has highlighted as indicators for abridged advice, such as the client’s attitude to transfer risk and attitude to risk, are apparent in the triage stage.
“So simplifying the approach to delivering abridged advice will allow clients to understand the likely outcomes quicker and at a reduced cost.
“As a business that doesn’t currently plan to provide abridged advice, we’d appreciate more clarification on how firms could confidently use a simpler process.”
The Covid-19 effect
FCA clarification on these loose ends is desired, but the pandemic has introduced uncertainty and created different priorities. DB transfers is just one of the areas among others with which the regulator must try to keep up to speed as the sands shift beneath it. The FCA has some more detailed information on how its carve out rules should be seen in light of Covid-19 (see box).
One of the best places to get the big picture view of what could happen to DB transfer activity is an index from consultants Lane Clark and Peacock. During the crisis it has issued a weekly analysis of the number of requests to transfer out of the 81 DB schemes it administers. The purpose of the exercise is to monitor how transfers have been affected by the Covid-19 crisis.
The index demonstrates the number of member requests to transfer out of DB schemes decreased substantially around the start of the Covid-19 lockdown.
The weekly transfer average was 49 for the first 10 full weeks of 2020 before lockdown started. This fell to 21 during the seven weeks of strict lockdown between 23 March and 10 May, before rising again to 46 by mid-June. Activity recovered over the summer as restrictions lifted and maintained that momentum, with 40 transfers averaged per week during September (see table).
But will activity continue its upward trend in the face of harsher measures introduced to combat a second spike in Covid-19 cases in the autumn? LCP partner Bart Huby says: “It will be interesting to see how transfer activity changes as we head into October – especially if we see ‘lockdown-lite’ member behaviour mirroring the trend under the previous full lockdown.
“The ban on contingent charging by financial advisers may make it harder for members to access the advice they need to transfer, so could also potentially reduce activity. On the other hand, the winding down of the government’s furlough scheme could result in more people looking to their pensions for financial flexibility. Only time will tell.”
What LCP might see on the index is backed up anecdotally by advisers.
Wingate Financial Planning adviser Alistair Cunningham says: “Covid-19 is changing things. With the second wave and furlough tailing off there is a stronger argument that some clients should transfer now compared to 12 months ago.
“I am dealing with a lady who needs to transfer because she suffers from a medical condition and cannot work as she is shielding due to the pandemic. Financial hardship can come from shielding due to bad health. That might be one of the benefits from the freedoms.
“But the catch is it is much harder to advise on a DB transfer when you are not there in person. We do have tools up our sleeve that can make the virtual advice process better, but we tend to go slowly. The nuance you get from face-to-face meeting is lost, but what can you do about it?”
It remains to be seen what influence Covid-19 will have on the future of DB transfers. The rules introduced to clear up the market are being implemented at precisely the time when financial hardship is rising. Nobody wants another explosive scandal like British Steel, but the conditions are still there for potential mischief.
The FCA has amended the transitional arrangements for firms with clients that had agreed contingent charging terms before 1 October, and which had begun work before 1 October. Where a firm can demonstrate this situation applies, it may charge contingently provided a personal recommendation is given before 1 January 2021; that is, within three months of the ban’s implementation.
But there is a risk that scammers could try to exploit a client’s anxiety to access their pensions.
Cunningham says: “I could purport to be a UK adviser and sit in an office in Singapore. Fortunately, the protections in place are greater for DB schemes as the trustee protection in theory makes it harder to access the money. After all, there is the requirement to evidence advice if the transfer is over £30,000.”
There are two pernicious issues that have plagued the DB pension transfer market. The first has been whether a transfer should be recommended or not and the second has been the funds that the transfer values have ended up being invested in.
Contingent charging has had a bearing on borderline cases. Where the adviser is more likely to recommend a transfer than not because otherwise they will not get paid for the work done. In terms of the funds recommended, a lot of the money seems to have gone into UCIS. Anecdotal evidence would indicate that the reason for this is the high level of fees paid to people introducing money into these types of investment.
Why do we have to tip-toe round the issue? Putting it plainly contingent charging was for the cowboys. Call yourselves what you like, but you are advisers. As such your stock in trade is advice. Someone comes to you wondering about the final salary pension. You tell them that this is your fees for the advice, whether they transfer or not.
Guess what! This allows for impartial and honest advice. Of course, the big boys such as SJP are not well pleased because their main focus is funds under management. True, many who have advised in these transfers on a contingent basis then have their hooks into the client for ongoing asset management fees.
This move by the regulator was well overdue and should really be applied across the board.