Defined Benefit Transfer Value

jamesd

TVAS said:

 At these large sum it would be prudent to adopt medium risk but where equities are not the major component of the fund because you want to preserve the fund rather than put it at risk. So within the funds that are medium risk have varying levels of equities: some have has high as 80% some as little as 20%

It would not be truly prudent to assert that medium risk is appropriate without:

1. Determining the income target and whether your definition of medium risk can achieve it for the target planning horizon with an acceptable chance of failure. It's income and other targets which drive volatility choice, not the other way around, at least if a proper planning exercise is done.

2. Saying at least something about the degree of volatility and ideally maximum drawdown expected from the mixture

But at least for some definitions I agree about medium risk because:

A. Using historic sequences of return and thirty to forty years planning horizons you get good safe withdrawal rates unless bonds exceed 50%

B. Optimal equities using historic sequences varies with drawdown approach and country but fifty to sixty percent tends to include the optimal thirty year 4% rule level while 65% was optimal (maximum SWR at 99% success) for UK Guyton-Klinger.

Longer periods or historic variation but not historic sequences can produce model results where risk falls as equities rise to 100%. Risk here being risk of plan failure, not volatility.

Since 50:50 might have a maximum drawdown of 25% (assuming equities down 40% and bonds down 10%) and 65:35 29% many might consider the whole likely range of optimal historic sequence mixtures to be medium risk even though equities may be the biggest component.

For anyone who doesn't know it, maximum drawdown has a meaning of the greatest likely drop in value as well as maximum SWR drawdown amount.

jamesd

philng said:

i am aware it is not the done thing but the offer is £879k v a current drawable pension of £20400 or £23000 in 3 years 9 months when I reach 60. Spouse pension on my death approx £15k and all of course indexlinked.

If not already familiar with safe withdrawal rates you should take the time to read Drawdown: safe withdrawal rates which introduces the topic and links to some of the key underlying research.

Safe withdrawal rules (methods, not law) vary. Here are two, each includes uncapped inflation increases, 100% spousal pension for a spouse of similar age and usually a substantial inheritance. Both are for a forty year plan. Both assume 1.5% in total costs.

1. £26,370 from now. 3.0% of starting capital increasing by inflation each year. Called 4% rule informally, constant inflation-adjusted income formally. It's very pessimistic, assuming you live through the historic worst case, increases are likely. 50:50 equities (shares):bonds.

2. £43,950 from now. 5.0% of starting capital but it will sometimes skip inflation increases or make greater cuts or increases depending on the conditions you actually live through. Guyton-Klinger rules. Starts closer to average expectation and adjusts as needed. 65:35 equities:bonds.

As transfer values have increased over the last fifteen years it's increasingly become a thing to do because the safe withdrawal rates have remained as cautious as before but now provide more income. Meanwhile the FCA ignores these fundamentals and still considers it to be a bad idea.

If you're not interested in retiring yet you should probably wait but ensure that you get it done not less than eighteen months before the normal pension age so they don't get an option to refuse at a year to go.

sandsy

The best way to think about the transfer value is that it's the amount the scheme considers it needs to provide you with the benefits they've promised you (assuming you take benefits in a way which is most expensive to them).

So if you're thinking about transferring, you have to think about:
a) if you have the knowledge and experience to do a better job than the scheme, given the risks involved
b) whether you have the appetite to take on the risk of outperforming what the scheme could provide
c) whether you're prepared to accept a worse outcome than you might get if you stay in the scheme

You could pay an adviser to do all that for you (on a transfer value of £879k, you could pay around £360pm if an adviser charges 0.5% each year, on top of the initial costs of advice). But that means £360pm (£4,400pa) that you don't receive as income.

Advisers will quote all sorts of research to try and convince you that you could do better by transferring, eg historic returns, so-called safe withdrawal rates, research on benefits of advice. But advisers don't have a crystal ball.

No matter what anyone tells you about likely returns etc, there are no guarantees if you transfer. So it all comes down to what you are most comfortable with and what you feel is best for your circumstances.

Marcon

TVAS said:

Next year your transfer value will be even higher because I do not thinks gilts will increase.

...and if the scheme alters the basis on which it calculates transfer values? Or changes its investment strategy to a much more aggressive growth portfolio, with the consequent downward pressure on scheme transfer values? 

jamesd

sandsy said:

The best way to think about the transfer value is that it's the amount the scheme considers it needs to provide you with the benefits they've promised you (assuming you take benefits in a way which is most expensive to them).

The word guarantee is key there but so is the missing "however long you and your possibly 60 or 80 year younger spouse live". Not many will have such a young spouse or very long life expectancy but the scheme has to provide for those cases to some extent.

The guarantee means they aren't allowed to fail. This typically causes them to invest in low to negative return in vestments in the form of UK government bonds.

You can choose to do things like state pension deferring to more cheaply provide guaranteed income with no inflation cap for the long life case.

For failure cases they mean taking a drop beyond what the drawdown rules provide. But the failures are typically late in life and by quite low amounts, do extra cuts tend not to be great and you have to still be alive, or your spouse, for it to affect you. I tend to think in terms of planning for only a five or ten percent chance of being alive at the end so your chances of being dead before it matters are high.

The pension scheme simply isn't allowed to make cuts. Though the inflation cap is most commonly 5% vs uncapped for drawdown or state pension deferral so real cuts can be made in that way.

sandsy said:

So if you're thinking about transferring, you have to think about:
a) if you have the knowledge and experience to do a better job than the scheme, given the risks involved
b) whether you have the appetite to take on the risk of outperforming what the scheme could provide
c) whether you're prepared to accept a worse outcome than you might get if you stay in the scheme

You also need to think about when you might do worse and who might do worse.

A spouse starts out with 100% pension if using drawdown and of a similar age. It'll take something extremely dramatic for them to end up getting less than the DB 50% of whatever on a lower starting amount after first death. For the original pensioner it also takes something very dramatic to get even as low as what the DB will later pay.

By extremely dramatic, consider that safe withdrawal rules at 100% success worked without reduction through both world wars, the great depression's UK equivalent and times of high inflation. So first you need to posit something worse than those. Then you need it to cut to at least below the DB level, allow for the extra money already received and still be alive.

It's a very tough hurdle at the moment, meaning with typical private sector transfer values. And it's largely because DB tends to be pushed into really low growth investments to provide the guarantee.

sandsy said:

you (on a transfer value of £879k, you could pay around £360pm if an adviser charges 0.5% each year, on top of the initial costs of advice). But that means £360pm (£4,400pa) that you don't receive as income.

The effect of costs is a reduction in the safe withdrawal rate of about 30% of the costs, not 100%. I already assumed total costs - advice, funds, platforms - of 1.5% in the numbers I gave. It is lower than 100% because you pay it on less in the near to failure cases that limit the safe withdrawal rate.

If you're paying 0.5% on £879k you need a cheaper adviser, you're getting a bad deal.

sandsy said:

Advisers will quote all sorts of research to try and convince you that you could do better by transferring, eg historic returns, so-called safe withdrawal rates, research on benefits of advice. But advisers don't have a crystal ball.

Neither do non-advisers like me or pure retirement researchers, but the answers don't change just because someone is an adviser.


You do have to accept seeing investment volatility and be willing to accept adjustments if you do live through something worse than the worst in the last 125 or so years. But on the DB side you have to wonder whether DB would fail due to employer failure, pushing you into the PPF if something that bad happened. DB has that nice guarantee word but it isn't a guarantee that can necessarily be relied on if you're positing worse than the last 125 years.

PaulMTC

jamesd said:

If you're not interested in retiring yet you should probably wait but ensure that you get it done not less than eighteen months before the normal pension age so they don't get an option to refuse at a year to go.

hi jamesd - can you please expand what you mean by "so they don't get an option to refuse at a year to go" - 

thanks

AlanP_2

The trustees have to offer a CETV value and any subsequent transfer at any point PRIOR to 12 months before the scheme's Normal Retiorement Age.

Once within that 12 month window it is discretionary.

Jamesd proposing 18 months allows you a bit of contingency time.

PaulMTC

thanks alanp

so does that mean i may be unable to transfer my DB pension once i have reached the normal retirement age of the DB pension scheme?

what about if i started drawing it say 5 years before my normal retirement age - would i be able to transfer it to a DC pension at a later date?

Marcon

PaulMTC said:

thanks alanp

1. so does that mean i may be unable to transfer my DB pension once i have reached the normal retirement age of the DB pension scheme?

2. what about if i started drawing it say 5 years before my normal retirement age - would i be able to ransfer it to a DC pension at a later date?

1. Correct
2. No. You can't transfer once you start to draw benefits from a DB scheme.

AlanP_2

Marcon said:

PaulMTC said:

thanks alanp

1. so does that mean i may be unable to transfer my DB pension once i have reached the normal retirement age of the DB pension scheme?

2. what about if i started drawing it say 5 years before my normal retirement age - would i be able to ransfer it to a DC pension at a later date?

1. Correct
2. No. You can't transfer once you start to draw benefits from a DB scheme.

For (1) I would say you may not be able to transfere from 12 months before NRA for the scheme. Ask the administrators, they will know.