David Smith, director of financial planning at Tilney Bestinvest, writes exclusively for What Investment on what options are available to pensioners faced with exit charges just prior to retirement
Earlier in the year, the FCA expressed their concerns over pension savers being hit by substantial exit fees upon accessing their pension funds. Yesterday, a consultation paper was released proposing a 1 per cent exit fee cap for those over the age of 55. Whilst this is a somewhat hypocritical stance for a government agency to take, bearing in mind the proposed Lifetime ISA will potentially be subject to a 5 per cent exit fee, it seems a great idea. After all, exit charges can be penal – in excess of 30 per cent of a funds value in some cases. But not everything is what it seems; and indeed, is such a proposal is feasible, or indeed fair?
First, we need to put into context what these charges are for. Exit charges encompass a myriad of different costs, fees and penalties, imposed for a multitude of different reasons.
The charge may simply be an admin fee for closure, some savers may be invested in with-profits funds which impose a ‘Market Value Adjuster’ (MVA) for funds withdrawn during periods of market uncertainty, there may be a charge to recoup added benefits provided at the outset of the plan, or in some cases they may be incurred to repay commission taken by an adviser.
These charges can vary in terms of severity, often depending upon the provider involved. For example, a simple exit fee for closure could amount to 1% of funds under management. On the other hand, many legacy policies were established with high allocation rates; so for every £1 contributed to a pension plan, amounts of up to £1.15 were invested into the plan. In return, the provider would recoup this extra allocation by taking charges up to the stated retirement age. If retirement or a transfer took place before the expected retirement age, a penalty would be incurred to reflect the fact that a shorter policy term would not have enjoyed such a high initial allocation.
As much as it is galling for a saver to see their pension fund hit by what could amount to thousands of pounds in charges just before retirement, there may in fact be valid reasons as to why these are levied. They protect other savers who may be invested in the same fund, whilst those who had high allocation rates applied to their pensions at inception are simply repaying a benefit that they would never have received in the first place had they selected a shorter policy term. Would the 1 per cent cap be fair on those investors who remain in a with-profits fund? Would it be fair that one saver who took the high allocation could wipe out their charges now, whereas an astute saver who opted against the high allocation for fear of future charges received no equivalent benefit?
Obviously, there are instances when the fee is not so justified; instances whereby a provider will charge simply because they are missing out on future annual management charges, or a saver is paying for the commission takings of a broker. Each individual case should be viewed on its own merits, reviewing whether the penalty appropriate or over and above what could be justifiably levied?
The fact is though, whether fair or not, many of these charges will have been written into the contracts of the plans from outset. Providers will cite the fact that the pensioner will – or should – have known about these charges from day one and that early exit charges would apply. Should the proposals gain pace there will no doubt be challenges from providers, protracted battles, and even court cases. Indeed, no one case holds the same virtue as another. A blanket ban on exit fees over 1 per cent may therefore be a lot more difficult to impose than expected. So, if you’re one of those impacted by such fees, I wouldn’t hold your breath on the cap being imposed any time soon.