Testing the mettle of the defined benefit advice process Delivering your client’s income needs May 2018    

‘Mettle is the courage to carry on ‘Mettle is the courage to carry on. If someone wants to "test your mettle," they want to see if you have the heart to follow through when the going gets tough.’ Source: vocabulary.com    

Important information This presentation is for adviser use only and not for retail customers, and contains some forward thinking statements which should not be taken as fact. Information given is based on our current understanding, as at May 2018, of current taxation, legislation and HMRC practice, all of which are liable to change and subject to an individual’s own circumstances. Terms and conditions of products are available on request. The level of charges may change in the future. For webex presentations, the event may be recorded for training purposes. No reproduction, copy, transmission or amendment of this presentation may be made without the written permission from Prudential. Prudential Distribution Limited is registered in Scotland. Registered Office at Craigforth, Stirling, FK9 4UE. Registered number SC212640. Authorised and regulated by the Financial Conduct Authority. This presentation contains past performance information which is not a reliable indicator of future performance. The value of investments can go down as well as up. Clients may not get back what they put in. Any examples included are designed to represent a typical situation and are not related to any particular individual. They do not recommend that course of action.    

Our learning objectives for the session To be able to demonstrate an understanding of: 1 2 3 How to overcome procedural bias in advising on DB cases The context to regulatory concerns with regards to DB advice Why death benefits are a key driver to transfer    

Transfer activity - The new norm? Source LCP Quarterly Review Feb 18 Issue 10    

Transferring pensions What the client sees… What the adviser now thinks… Pension    

Transfer risks and considerations    

Freedom & Choice has added transfer drivers Investment control TVAS TFC Flexibility Spouse and Health Advice Opportunity Concerned over health of scheme Lump sum death benefits    

Post-Freedom death benefits – Drawdown Scheme rules, RULE!   This example represents a typical situation. Not related to any particular individual It does not recommend that course of action.

Key driver to transfer - Transfer of Wealth Any examples included are designed to represent a typical situation and are not related to any particular individual. They do not recommend that course of action.    

Cascading of pension wealth Gerry, HR tax payer spends £10,000 net on his pension = He retires, and becomes a basic rate taxpayer (BRT) He takes the income of £667 (after tax) for 10 years He dies and passes the fund to his spouse She takes the income tax free (as Gerry was under 75) for a further 20 years She dies (over 75) and passes the fund to her daughter (BRT) She takes the income(after tax) for another 16 years She dies (pre 75) and passes it through to her son who takes it as a lump sum £16,667 £6,667 £16,667 £10,672 £16,667 £50,673   The above example assumes 5% pa growth with income taken at the same level.  

TATA fallout and advice concerns…    

House Of Commons Select Committee on BSPS TVs… Worrying evidence regarding financial advice provided to members of the British Steel Pension Scheme (BSPS). BSPS members have, over the past year, been exploited for cynical personal gain by dubious financial advisers in tandem with parasitical so-called “introducers” Many BSPS members were shamelessly bamboozled into signing up to ongoing adviser fees and unsuitable funds characterised by high investment risk, high management charges and punitive exit fees. Another major mis-selling scandal is already erupting and we therefore call on the relevant bodies to treat this as such and take urgent action. A key driver of poor advice is contingent charging. Source: House Of Commons Select Committee Report Jan 18 (Emphasis added)    

Transfer concerns… Transfer ‘bias’/conflict of interest. Contingent charging Hyperbolic discounting ‘Bird in the hand? ‘ FAD’s the answer…what was the question? Behavioural bias Sausage factory /chicken & chips? Commoditisation of advice Implied change in 17/16? DB Transfer start point Client perceptions Life expectancy Investment returns    

The ‘lottery win’ & hyperbolic discounting High CETV-Client feels like they’ve ‘won the lottery’? Hyperbolic discounting? ‘overly valuing money now in preference to money in the future’. Example demonstrating the value of deferred benefits in terms of cash CETV £500,000 Deferred pension £14,600pa PP/SIPP fund needed to buy annuity* £615,000 Source: Personal Finance Professional Summer 2017 thepfs.org Rory Percival article ‘Buried treasure or a minefield’? This example represents a typical situation It is not related to any particular individual It does not recommend that course of action    

The regulatory background Safe to say    

The harm being addressed…? Shortcomings Specialist transfer firms License suspensions Source :http://citywire.co.uk/new-model-adviser/news/fca-one-third-of-british-steel-transfers-unsuitable/a1084715 http://www.pensionsage.com/pa/FCA-reiterates-warning-over-unsuitable-pensions-advice.php We’re not responsible for contents/reliability of the websites      

PS 18/6 and CP18/7 Key Points PS 18/6 DB starting position PTS role/responsibilities Investment gap-fill APTA TVC Gilt yield/risk-free return Product but not adviser charge Stochastic modelling TVAS? Inducement? CP 18/7 Concerns re suitability PTS qualifications-Investment Oct 20-(Gap-fill?) Update old (G6o/AF3?) Gap fill/exams update? Triage role? ATR concerns (but C4L?) Pension increase assumptions CPI/RPI cap/collar Contingent charging further concerns but some lack of clarity in how to deal? Stagings April/Oct….18/2020 TVC AIR rolling 3 month    

PS 18/6 Continuing supervisory work Starting point Timetable Key points Continuing supervisory work Starting point Timetable Reiteration of CP17/16 aspects Personal recommendations PTS Role and wider responsibilities APTA requirements TVC Refinements Provider TVAS    

The APTA Plan for a reasonable period beyond life expectancy Accurately assess ceding scheme benefits Compare with receiving scheme Plan for a reasonable period beyond life expectancy Taxation & State benefits Balanced approach to PPF/FSCS Balanced approach to scheme funding/covenant Transfers considered to be a transfer of value 2 Year rule applies No case law on what value would be Could be nominal (ie return of fund to return of fund) Likely to be substantial where transfer greatly increases death benefit Basis is “loss to Transferor’s estate” Broadly, it is the difference in value of the death benefits and the retirement benefits of the receiving scheme Need to calculate a “before” value and an “after” value    

The APTA All charges to be disclosed Have regard to likely pattern of taking benefits from both schemes Consider how each arrangement could meet income needs/death benefits Consider the trade offs that may occurs by prioritising different objectives Analysis on different assumptions allowed Transfers considered to be a transfer of value 2 Year rule applies No case law on what value would be Could be nominal (ie return of fund to return of fund) Likely to be substantial where transfer greatly increases death benefit Basis is “loss to Transferor’s estate” Broadly, it is the difference in value of the death benefits and the retirement benefits of the receiving scheme Need to calculate a “before” value and an “after” value    

CP 18/7 Key points Discussion aspects (Triage/2 adviser model/ATR model) ‘Harm being addressed’ (Unsuitable advice?) PTS (Qualifications/Investment knowledge/Roles/Models) ATR vs ATTR? Risks and biases? Sustainability/Safeguarded benefits Contingent charging Advice models/Affordability/Suitability Conflict of interest? Separation of advice segments (TV/Invest/Implementation) Key Points PS 18/6 DB starting position PTS role/responsibilities Investment gap-fill APTA TVC Gilt yield/risk-free return Product but not adviser charge Stochastic modelling TVAS? Inducement? CP 18/7 Concerns re suitability PTS qualifications-Investment Oct 20-(Gap-fill?) Update old (G6o/AF3?) Gap fill/exams update? Triage role? ATR concerns (but C4L?) Pension increase assumptions CPI/RPI cap/collar Contingent charging further concerns but some lack of clarity in how to deal? Stagings April/Oct….18/2020 TVC AIR rolling 3 month    

ATTR Risks & Benefits of staying in scheme Risks & Benefits of transferring Client’s attitude to certainty of income Impact on sustainability of unplanned access Client’s attitude to being restricted on access The risks and benefits of staying in a safe-guarded benefits scheme The risks and benefits of transferring to a flexible benefits scheme The client’s attitude to certainty of income in retirement Whether a client will access funds in an unplanned way and the impact on sustainability The client’s attitude to being restricted on access to benefits in a safe-guarded benefits scheme The client’s attitude to managing investments or paying for them to be managed in a flexible benefits scheme    

The APTA and the specified TVC format Example of transfer value comparison The transfer value offered instead of your pension income is £120,000 How does this compare with the amount you need to buy the same income on the open market? It could cost you £140,000 to obtain a comparable level of guaranteed income on the open market. This means the same retirement income could cost you £20,000 more by transferring    

Case study and income modelling…    

Case study – TVAS calculation and the TVC Worked for Big Pharma Plc 20 years membership in 60th DB scheme Leaving salary £45,000 Left in 2013 Leaving pension 20/60 x £ 45,000 = £15,000 Payable from age 65 June, age 45 This example represents a typical situation. It is not related to any particular individual. It does not recommend that course of action.    

Transfer value – calculation Calculate the pension at NRA £ 26,400 Revaluation (scheme rules/legislation) £18,200 £15,000 2013-DoL 2018 – Date of TV Calculation 2033 - Age 65 This example represents a typical situation. It is not related to any particular individual. It does not recommend that course of action.    

The transfer value comparator – TVC Prescribed discount GY minus 0.75% charge £881,000 £776,000 £353,000 shortfall £423,000 TV offered Estimated current cost of replacement NRA This example represents a typical situation. It is not related to any particular individual. It does not recommend that course of action.    

The transfer value comparator – TVC £881,000 Adviser “selected” discount rate of 3.25% £549,000 £126,000 shortfall £423,000 TV offered Estimated current cost of replacement NRA This example represents a typical situation. It is not related to any particular individual. It does not recommend that course of action.    

Drawdown matching the scheme pension…? Fund £600k at L/E Starting income £26,400 26400 pa income esc 2% 1% IC plus 0.5%OAC £600 fund at l/e PFG 65 116 This example represents a typical situation. It is not related to any particular individual. It does not recommend that course of action. Source Prudential Retirement Modeller    

Alternative decumulation…? Income £63,600 Starting income £35800 750k fund dob 22-03-1953 NRA 65 Income 27980pm 2% Esc 1%IC plus 0.5% OAC 11-04-18 65 95 This example represents a typical situation. It is not related to any particular individual. It does not recommend that course of action. Source Prudential Retirement Modeller    

Mapping alternatives…? Peak income £64000 Starting income £46400 State Pension Reductions 80-94 15% £42k starting income 65 80 95 This example represents a typical situation. It is not related to any particular individual. It does not recommend that course of action. Source Prudential Retirement Modeller    

How important is “drawdown” in Drawdown? Source: FE Analytics    

How important is “drawdown” in Drawdown? Maximum Drawdown represents the worst possible return over a period — for example, buying at the maximum price over the period and selling at the worst price. Maximum Loss represents the worst running return over a period — for example, the longest running consecutive loss without making a gain. IA: Mixed 20-60 sector Years to 31/12/17 Maximum Drawdown Maximum Loss Volatility Return 20 22.12 15.08 6.42 5.00 10 20.21 6.12 4.83 5 8.80 4.29 4.97 Volatility Max DD + Withdrawal = 20.21%+4.00% = 24.21% ‘back to par’ => 30.09% increase     Source: FE Analytics. Table relates to the IA Mixed Asset 20-60 sector  

IA Mixed 20-60 vs 4.5%   Source: FE Analytics. Period 01/01/08 – 01/01/18  

IA Mixed 20-60 vs 4.5%: £4500 pa income (qtrly)   Source: FE Analytics. Period 01/01/08 – 01/01/18  

Our learning objectives for the session To be able to demonstrate an understanding of: 1 2 3 How to overcome procedural bias in advising on DB cases The context to regulatory concerns with regards to DB advice Why death benefits are a key driver to transfer    

Thank you speakernotes@prudential.co.uk If you would like to give us feedback directly or request information not covered elsewhere please email us at speakernotes@prudential.co.uk