Defined Benefit – Self-triage – client guide 

The text on this page is from the Quilter Financial Planning ‘Self-triage – client education guide’.
You can download the original document here – Quilter Financial Planning Self-triage – client education guide 

Introduction 

Following your enquiry about your defined benefit pension (DB), the purpose of this guide is to help you better understand your scheme, including the benefits and drawbacks it may have, and will help you decide whether you want to take advice on your pension. 

Your decision on whether to receive advice or not is a very important first step. You should read the following guide carefully before making a decision. This guide is for information only and is not intended to be, and should not be interpreted to be, personalised advice. 

What is a defined benefit pension?

A defined benefit pension scheme is a pension which  guarantees you will get a specified benefit when you reach the scheme’s retirement age. The ‘benefit’ is usually based upon a formula that reflects your salary and years of service. There is no investment risk with this type of scheme. 

Alternatively, with a defined contribution pension scheme what you get when you retire is not specified in advance. The  final value of your pot will depend upon the amount paid in, charges and performance. However, a defined contribution  pension scheme may offer more flexibility and control. With this type of arrangement, you will have ongoing decisions to  make about how your money is invested and the amount of investment risk you are willing to take. You could use some  or all of the money to buy a guaranteed income in the future.  

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Whether or not to do this will be one of the many decisions you will need to make. You could choose a flexible income  arrangement where you can withdraw the income you want. These are complex decisions and you may need advice as  there could be tax implications and other risks to consider. 

We provide more information on the key differences between defined benefit and defined contribution schemes below.

You should understand that the financial services regulator, the Financial Conduct Authority (FCA), has stated that it will be  in the interests of most people to keep their defined benefits  pensions because of the valuable guarantees these provide. Many people underestimate how long they will live and defined  benefit schemes protect you from the risk of your money running out. 

Helping you understand your pension  

Following changes in legislation, known as ‘Pension Freedoms’, you now have more flexibility in the way you can access your pension funds, although this will not necessarily be through your existing scheme. You should consider the following carefully before you choose to proceed with requesting advice. 

Transferring out of a defined benefit pension scheme is unlikely to be in the best interests of most people. 

The following table compares some of the features of a defined benefit pension scheme compared to a defined contribution scheme:

(Please note – the following table is best viewed in landscape mode if viewing on a mobile)

Feature

Income

 Defined Benefit

DB: The pension income is a set amount, guaranteed for life, which will usually increase automatically each year to protect against inflation. There is no investment risk for the pension member and the pension scheme has to pay the member’s pension  regardless of how well the scheme assets perform.

Defined Contribution 

DC: Provides an income set by the member based on how  much they need. It could be more or less than that offered by a defined benefit scheme. The level of  income can be increased or decreased at any time to take account of a change in circumstances. However, there is a possibility the fund could run out if the  withdrawals taken are unsustainable, (i.e. are too large  to be maintained), and/or investment performance is poor. A guaranteed income could be purchased at any  time with some or all of the remaining money.  

Death benefits 

DB: The pension is payable for life and upon death is  usually payable at a reduced rate to a partner or  dependent -typically 50% – and payable for their lifetime. These payments are made regardless of  how long you or your dependent lives. Once you and your dependents have died no further benefits are payable.  

DC: Income is payable for as long as there is money in the  pension. It’s dependent upon the investment returns within the pension and whether withdrawals are sustainable. If you take too much out at an unsustainable rate, or live longer than expected, the fund may run out. Upon death any remaining fund can be passed on free of  tax before age 75. It can be passed on at the beneficiary’s marginal rate of income tax after the age of 75 but will be  taxed at the beneficiary’s marginal rate of income tax. 

Poor health 

DB: If you are in poor health, it does not alter the level  of income the scheme will pay however, should you suffer a serious illness prior to the pension commencing, some schemes do pay benefits on different terms. This could include paying the  pension earlier and increasing the lump sum that varies with each scheme. 

DC: If you are in poor health, it may mean you have capacity to take bigger withdrawals before death, or you could  instead use the fund to secure an alternative guaranteed income by purchasing something called an annuity. A typical annuity will ensure a guaranteed income for life and if you are in poor health, or have no dependents, it may mean you receive a higher income than your defined benefit scheme is offering. 

Tax free cash 

DB: In most defined benefit schemes, the member has the option of giving up some of the income and taking it as tax free cash (known as a pension commencement lump sum). This must be taken  in one go. 

DC: Tax free cash (known as a Pension Commencement Lump Sum or PCLS) is normally 25% of the total amount being taken out of the pension and can be taken in stages, or all in one go. 

Retirement  date 

DB: The scheme normal retirement date is set by the scheme rules and a full pension is payable at that date. Accessing benefits early, from age 55, is usually permitted subject to reductions reflecting the pension being payable for a longer period. In some cases, there is an earlier protected retirement age, for example age 50. 

DC: Benefits can be turned on and off from age 55 onwards but early access may impact the amount of  funds available later in retirement. You can choose to secure some income at any time by buying an annuity to provide a lifetime or short term guaranteed income at the rates available at the time. 

Employer covenants and financial protection 

DB: The sponsoring employer of a defined benefit pension is bound by law to adequately fund a defined benefit pension. They can’t walk away from their pension liabilities should a scheme be underfunded, unless they go into liquidation. In the event of an employer going into liquidation, an underfunded pension scheme would have a call against any assets remaining upon wind-up, prior to any shareholders receiving any money.

Should a pension scheme not be able to meet its  liabilities with no solvent sponsoring employer, the Pension Protection Fund is available to protect members of the scheme.

DC: There is no ‘employer covenant’ once you have transferred your defined pension scheme. Your pension is reliant on the underlying investments and how well they perform.

The Financial Services Compensation Scheme provides 100% protection in some cases should a pension provider fail.

Charges

DB: The scheme is responsible for all the charges  associated with running it. The scheme may work closely with a firm of financial advisers and any advice would typically be chargeable. 

DC: There will be product, investment management, and possibly platform charges which will reduce  the size of your pension fund. After the initial  advice fees, there are also likely to be ongoing  advice fees. Typically, these are paid out of the  pension fund but in times of poor investment performance these can have a bigger impact  on your pension, which means it could run out  sooner than planned.

Investment  risk and performance

DB: The responsibility for investment decisions and their consequences reside with the scheme trustees and their investment adviser/managers. The scheme pays for advice and administration and these do not affect your income. 

DC: You bear the risk of the investment decisions taken and throughout the time the funds remain invested into your later years. Poor returns in the early years of retirement and taking money out at the same time can seriously affect the amount of  income you could withdraw over the long term.  

Inflation protection

DB: The scheme will usually provide a rising income to protect against some of the effects of higher inflation. 

DC: Your investment choices will determine how much inflation protection you have. Lower risk assets may  not provide enough return in the long run. Higher risk assets whilst potentially offering greater inflation protection, may suffer more losses reducing their overall returns. In short, investment returns will  always be uncertain. 

What advice can you offer me? 

Should you choose to receive advice, we can offer you either a limited or comprehensive advice service on the transfer of  benefits. Please ask us for information about the fees for this if you are interested in proceeding.  

Please note, we generally do not engage with clients for DB transfer advice who are not intending to access income  benefits in the immediate future, typically within the next 12 months. The fees for advice may mean smaller transfer  values are less likely to warrant the costs of taking advice. You should check with your scheme administrator for any  restrictions on transfers of benefits, and if you are not UK resident, we may not be able to provide any advice at all. 

Before seeking advice, you should consider what you want your retirement to look like.  

It can then be helpful to think about the costs and your spending priorities like this:
Essential spending – heating, eating, transportation, insurance and unfortunately tax 
Lifestyle spending – the things that bring you joy, fun and pleasure beyond just getting by, and 
Discretionary spending – this can be fulfilling dreams or anything else with what’s left over after the essential and  lifestyle spending are taken care of. 

Once you know what you need in these areas, financial advice  can help you figure out what is possible and how best to  achieve it. 

Abridged advice 

Abridged advice is a reduced level of service compared to  full advice and only considers your circumstances and your  pension value. It is a cheaper option than full advice and can  be used to give you two possible outcomes.  

It requires your adviser to ask questions to obtain comprehensive information about you, your needs and circumstances. It does not include more detailed analysis of your pension scheme or future circumstances in retirement.  

The outcome from your adviser will only be either: 

1. A recommendation that you should not transfer your pension;

or, 

2. A statement that a recommendation either way couldn’t be made based on the information provided and in order to  make a conclusive recommendation you would need to pay for full advice that would include a detailed analysis of your  scheme benefits. 

While abridged advice is a shorter process, it still requires an  adviser to gather a lot of information about you and your  retirement requirements. 

Your adviser will set out all the fees for abridged advice for you  to consider and if agreed, your adviser can commence with the  abridged advice service. The fee for carrying out this process is  lower than for full advice. If, after following this process, you  

wish to proceed to full advice we will discount the abridged fee  from the full advice fee. So, you don’t pay twice for the  common elements.  

If it’s not clear that you should retain your existing scheme  benefits, your adviser will discuss how much it would cost to  provide you with full advice should you decide to proceed  further. Your adviser will only proceed to the full advice stage  with your agreement. 

Abridged advice is optional, and you can choose to go straight  to full advice if you prefer.

Full advice 

Our Full advice service considers all relevant options including –  if a transfer is in your best interests – where to invest your  money. If you choose to receive full advice your adviser will  discuss our fees and any associated costs with you and will  only proceed with your express agreement to do so. 

Advice will involve collecting extensive and detailed information  about you. Your adviser will then conduct a detailed analysis of  your pension scheme and consider the impact this will have on  

you and your retirement. This will include comparing the  benefits of retaining your pension scheme to meet your current  and future objectives and a conclusive final recommendation  stating whether it is in your best interests to retain or transfer  the pension at this point in time. 

If we make a recommendation and you wish to proceed against  our advice, we will not be able to arrange this for you. 

Your adviser will charge you a fee for the advice which you will  be told at the outset, and it will become payable in accordance  with the terms agreed with you. Your adviser will discuss with  you how the fees for advice can be paid. 

Please be aware that regardless of the advice given, any  pre-agreed fees will still be payable. This includes a  recommendation to retain your pension benefits. 

Next steps 

Having read this guide, should you require further  information on defined benefit pensions, you can  find it at the following recognised sources: 
Money and Pensions Service 
www.moneyandpensionsservice.org.uk 
The Pension Regulator (TPR) 
www.thepensionsregulator.gov.uk 
The Pension Advisory Service (TPAS)  
www.pensionsadvisoryservice.org.uk 

The FCA has written guidance to help those considering  a transfer and this can be found at the link below. This  also describes who might typically benefit or not from  a transfer: 
www.fca.org.uk/consumers/pension-transfer defined-benefit 

We would strongly encourage you to watch this helpful  video from the FCA which aims to help consumers  better understand financial advice on transferring out  of a defined benefit pension. This can be found at the  link below: 
www.fca.org.uk/news/news-stories/fca-publishes video-help-consumers-understand-pension-transfer advice 

 

If having read this guide you feel you are in a position to ask for advice on your defined benefit pension, or any other matter, please contact us on 0141 352 7800. 

We have taken every step to ensure the accuracy of the content and our current understanding of applicable UK tax rules but will not be liable in the event of any error.

Useful Links

FCA – defined benefit pension transfer – what to expect

FCA video – defined benefit pension transfer process explained