Being offered the chance to transfer a defined benefit (DB) pension into a defined contribution (DC) scheme means making a big decision - one not to be taken lightly. What’s more, if you decide to transfer, there’s no going back. This means it’s incredibly important that you fully understand the implications of your final decision, whether it is to stay in your DB scheme or to transfer out. You may be offered a financial incentive to transfer out. It is important to carefully evaluate this incentive before you transfer out.
DB schemes and DC schemes
DB schemes differ from DC schemes in that their value is determined not by the total amount contributed to your pension, but by your final salary, age and length of employment in the respective company. They promise people a certain level of income when they retire.
DC schemes, on the other hand, mean that you build up a pension pot using your own contributions and often those of employers. If you’re a member of the scheme through your workplace, this will be automatically deducted from your salary before tax. However, if you set up the scheme yourself, it’s your responsibility to arrange your contributions.
Generally, DB schemes are more generous because they mean that you are guaranteed a certain level of income after you retire. As people live longer, the cost for employers of maintaining payments has risen. This has meant that it has become in the interests of many employers to move former employees on DB schemes on to less costly DC schemes. Only people who are no longer in the scheme or who are at retirement may be offered a pension transfer.
Should you transfer out?
Ultimately, whether or not you should transfer out depends on your current financial situation as well as the nature of what you’re offered. If you’re considering transferring out, you should get professional financial advice. In fact, if you have a DB pension worth more than £30,000, it’s the law that the trustees see that you have had your transfer signed off by a Pension Transfer Specialist.
One reason you might want to transfer out is because transfer values have shot up in the last few years. Pension firm Xafinity claims that a 64 year old entitled to a £10,000 yearly pension starting at 65 would get £31,000 more today than they would have received in June 2017.
What’s more, whilst DB schemes offer a lot of stability, they’re not very flexible. With a DC scheme you may be more able to adapt your finances to your changing needs. For instance, if you plan on travelling the world for two years after retirement, the option of withdrawing more money at the start of your retirement before living more frugally after your adventures may be necessary to accommodate your lifestyle. In this case, accepting a pension transfer could be a better idea.
However, if you have a long retirement, even at a high transfer value, you might have a lower income over the course of your retirement if you decide to transfer out. On a DB pension, you have steady earnings for the rest of your life. With a DC scheme, you have to take responsibility for your retirement income. You lose the peace of mind that DB schemes offer because you will be in charge of what you take out and where you invest your pension.
Each individual case is different. Seeing a registered Pension Transfer Specialist is essential before transferring out. They will assess your current financial situation in detail, as well as breaking down what transferring out would mean for your future.
At Bailey Richards, we have plenty of experience advising clients who are considering transferring out of their pension scheme. If you’ve been offered a pension transfer value and would like some financial advice, get in touch with us.