By Mike Whittingham, Principal and Senior Consulting Actuary at Barnett Waddingham
However, transfer value activity has fallen over the last 12 months and remains at very low levels compared to recent years (see Transfer value experience - Q3 2023 briefing). Bulk cash equivalent transfer value (CETV) exercises are virtually non-existent. Sixty-year-olds who were offered a transfer value of £200k at the start of 2022 are now being offered around £100k in exchange for the same benefits.
"Is this the end of traditional member options exercises? I don’t think so. We have certainly hit a bump in the road, but I think there are plenty of reasons to bring member options exercises back on the agenda."
At the same time, there are now a significant number of schemes fully funded on a buyout basis, focussing their efforts on transacting with an insurer as soon as possible while pricing remains attractive. For these schemes, the potential funding gains associated with a member options exercise are no longer an incentive (and the sponsor is probably more worried about trapped surplus). Even if it was deemed to be in members’ interests to offer an option which may not be available after buyout (or available on worse terms), this will only serve to delay any potential transaction in a very demanding market.
Furthermore, increased governance requirements means that IFAs had already started exiting the market even before CETVs nose-dived. With fewer exercises coming to the market, those that did survive the increased governance burden are now wondering why they bothered.
So, all in all, is this the end of traditional member options exercises? I don’t think so. We have certainly hit a bump in the road, but I think there are plenty of reasons to bring member options exercises back on the agenda.
Abolition of the Lifetime Allowance
The abolition of the Lifetime Allowance (LTA) could make options such as Pension Increase Exchange (PIE) or Bridging Pension Option (BPO) more attractive. Previously, members with large benefits could be tipped over the LTA by accepting a PIE or BPO, meaning they paid a tax charge for receiving a pension which is as valuable (or often less valuable) as the one they have just exchanged. The consequences were potentially even more severe for members with LTA protections in place. However, this issue has largely fallen away following the removal of the additional tax charge from April 2023 (and the abolition of the LTA entirely from April 2024).
Similarly, the increase in the Annual Allowance (AA) from April 2023 means that members have more headroom to accept a PIE or BPO at retirement before having to worry about paying an AA tax charge. These tax breaks will only serve to make options such as PIE or BPO more attractive to members with large pensions.
GMP equalisation
Five years after the landmark Guaranteed Minimum Pension (GMP) equalisation judgement, most schemes are still grappling with the problem of implementing the necessary benefit changes. Combining GMP conversion with PIE is an opportunity to deal with GMP equalisation while simplifying benefits and giving choice to members.
While many trustee boards have provisionally chosen to adopt a dual-records approach, there is no reason why this decision can’t be revisited. If trustees were previously put off conversion due to the lack of choice given to members, or the associated tax implications, combining GMP conversion with PIE could now look like a good solution for dealing with GMP equalisation. This option ensures members have some say in the shape of their benefits after retirement, and the recent changes to the LTA and AA means that the tax difficulties which previously made GMP conversion unattractive have somewhat fallen away.
Trivial lump sums
For schemes with low value benefits, the number of members in scope of small lump sums or trivial commutation death benefit lump sums is likely to have increased following the rise in gilt yields. An exercise offering trivial lump sums to eligible members may now be deemed a worthwhile exercise, and at a point when gilts have reached their highest levels in many years, this appears to be an opportune time to remind members of this option.
Time to reassess journey plans
As the dust settles after ‘gilt-gate’, now is the time for trustees and sponsors to reassess journey plans and start to think more seriously about their scheme’s endgame. Schemes that were previously decades off buy-out may now only be a few years away. Running a member options exercise could bring this timeframe in further, and could be all that’s needed to get schemes ‘over the line’, without any additional funding from sponsors.
Additional flexibility for members
Finally, and perhaps most importantly, many members approaching retirement are still struggling to understand the options available to them and/or would like greater flexibility at retirement. Those who wanted flexibility previously could have transferred their benefits to a defined contribution (DC) scheme, but this option looks far less attractive now given the fall in transfer values. Perhaps this flexibility could be provided within their existing DB scheme instead? This isn’t to say that trustees should offer members every option under the sun. Retirement packs stretching to 60 pages with multiple options are more likely to confuse members than allow them to make informed decisions. However, providing some form of additional flexibility (e.g. PIE or BPO), alongside subsidised advice from a reputable IFA, is likely to be a very welcome change for members.
A new chapter for member options exercises
While I can’t see bulk CETV exercises coming back on trustees’ agendas anytime soon, I do think there are lots of reasons why trustees and sponsors should seriously consider the options offered to members. While funding gains may no longer be the driver for some schemes, there are still lots of schemes where running some kind of exercise, or offering members greater choice at retirement, could get the scheme over the line in terms of buy-out funding. PIEs and BPOs look far more attractive in a world with fewer tax implications, and could offer a way to finally dealing with GMP equalisation. Members remain uninformed about the existing options available to them, and for many the options currently available don’t fit their retirement needs – something which could be dealt with by improving the at-retirement options alongside financial advice from a reputable IFA. Overall, I don’t see this as the end of member options exercises, but instead a new chapter.
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