St. James’s Place: Investors should be wary of cashing out of their final salary pension scheme SJP: ‘Caution’ should rein before sacrificing final salary pension

Ian Price, divisional director for pensions at St. James’s Place, has urged investors to be cautious about cashing in their final salary pension scheme.

 SJP: ‘Caution’ should rein before sacrificing final salary pension

investors should plan for retirement as early as possible

He commented, ‘Final salary pension schemes tend to invest heavily in UK gilts, which offer a relatively safe and predictable return, or yield, compared to many other types of investment.

But the impact of financial conditions in recent years has been reflected in extremely low gilt yields, which pressured schemes to reduce their deficits. Following the EU referendum in June, the yield on a UK 10-year gilt tumbled to below 1% for the first time ever1. Although yields have recovered since, the overall downward trend has made it more expensive for schemes to meet their obligations. Many schemes are therefore taking steps to offload their liabilities by offering members attractive cash sums for transferring out.’

\Gilts are UK government bonds, and the interest rates offered are very low at present because UK interest rates are low.

Price continued, ‘Some schemes are offering transfer values of 30, 40, even 50 times their projected annual pension income, which can equate to several million pounds for some high earners.’

‘A final salary pension offers a secure, index-linked income in retirement, with no investment risk. They are among the most generous and sought-after schemes around, so conventional wisdom says that swapping them for riskier defined contribution pensions is generally a bad idea. Yet high transfer valuations have created a surge in interest from people wishing to do exactly that. Of course, such a major decision will have lasting impacts on your future finances in what are becoming increasingly long retirements, so seeking full advice is very important.’

The St. James’s Place man added, ‘Nearly all final salary schemes allow you to transfer what is known as the ‘cash equivalent transfer value’ (CETV), which represents the value in cash terms of your existing benefits. You can swap this for a defined contribution (DC) arrangement to get cash or income from the pension if you are 55 or over.’
Price elaborated further, ‘Unlike a final salary pension, DC pensions offer no income certainty and the value of the pension pot is determined by the performance of the chosen investments.

Yet many individuals find the flexibility of DC schemes attractive, as they gain control of investments and the withdrawal of their capital; and they can pass on the residual fund to others, such as children, when they die. If you don’t need to insure against a long life, or you expect to have periods of very different income and capital requirements, or other assets will provide enough income and you want to leave your pension to your children; then you might consider swapping a final salary pension for a DC pension.’

He concluded his comments with the remark that, ‘But if you’re in good health and you want a guaranteed lifetime income with limited risk, or you want protection for your spouse or partner, then you should stay in the final salary scheme. Ultimately, if the final salary pension is likely to be your only source of income in retirement, there’s little point coming out of the scheme – especially if you’re trying to replicate the guaranteed benefits that are already provided in the scheme.’

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