| Case study: Exit charges, pension freedoms and future benefits. |
Mrs Green is 55 and has a policy with XYZ Life with a retirement age of 65. She has been quoted a fund value of £75,850 but the transfer value is only £66,800, a reduction of 12 per cent. Her financial adviser has obtained projections of the possible benefits at age 65 if she should leave the policy with no further premiums. The projected fund assuming 2.5 per cent a year real growth is £79,500. Article continues after advert The adviser calculated that the fund of £75,850 should only need to grow by 0.5 per cent a year to reach £79,500 in 10 years. As the annual fund management charge is 0.75 per cent a year, this means that the insurance company are actually taking 1.25 per cent a year additional charges from her policy. Her choice is to incur 12 per cent as a one-off charge or to pay 1.25 per cent a year additional charges for 10 years. She therefore chooses to transfer to a modern low-cost plan with a wide fund choice to improve future performance and give her the flexibility she needs to access her benefits. |
The key focus of the FCA’s consultation is to improve people’s ability to access pension freedoms, and in this regard there is considerable misunderstanding around the impact of exit penalties. Exit penalties might be a psychological barrier to some, but they should not be to those who are taking regulated professional advice.
If the penalty is simply an amortisation of future charges, there is, in reality, no loss in transferring. You can either carry on and pay those charges over the remaining term of the policy, or you can have them taken off straight away when you transfer. In reality the money has already gone.
But those who are self-advised may not appreciate this, and see only a big charge on exit.
The difference between face or notional value and surrender value begs a tricky question for the current consultation. What is the ‘value’ on which the exit charge restriction will be placed?
The policy conditions would have set out in legal terms what the value of the policy was, and in most cases that would have been based on the value assuming early termination – not the higher ‘notional’ value.
If the charge restriction is based on the value as determined by the policy conditions, then this will not mean lower charges for the customer, and one has to wonder whether this, in reality, is a ‘nil sum gain’. Nice window dressing for the politicians, but what does it mean in practice?
While such policies would not be permitted today by the regulator, that does not mean they should not be honoured on their original terms. To ignore these contractual terms would be hugely unfair on shareholders who had invested in the business based on the value of these and other policies.
