Final Salary — Defined Benefit Pension Transfer
A final salary pension, also known as DB (defined benefit) pension, is one of the most prevalent types of pension in the UK. It is a pension you would have accumulated while working for a company in the UK.
If you have saved into a final salary pension scheme, your funds, together with your employer's contributions and government tax relief, are invested in the stock market over your working years. Your pension's value depends on the number of years you have worked for your employer, the last salary earned and an accrual rate. It is not contingent on the value of any funds; if so, it is not a Final Salary scheme.
In the video below, you can find our CEO and Independent Financial Advisor, Dominic James Murray explains everything you need to understand about Defined Benefit pension transfer.
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Defined Benefit Pension Transfer
A final salary pension can be transferred to a fixed-size pension pot such as a defined contribution plan. This is referred to as a defined benefit pension transfer or a final salary pension transfer.
In a defined benefit pension transfer, your pension provider may pay you a lump sum in return for giving up your guaranteed pension. This sum will not be offered in the form of cash, but something known as the Cash Equivalent Transfer Value (CETV). This can be put in a pension pot, from which you will be able to receive an income once you reach the age of 55.
Benefits of Final Salary Pension
If we look back 10-40 years, the final salary pension would, in time, have increased significantly, and it would have been one of the pensioners' most precious assets. They have risen in popularity because final salary pensions have several advantages as well.
Safe
All defined benefit schemes are protected by the Pension Protection Fund (PPF). However, the PPF may have a limitation on how much it can guarantee.
If you were beyond your normal pension age or began receiving your pension early owing to illness, you are entitled to a full PPF pension. In addition, anyone receiving a survivor's pension, such as a widow's or widower's pension, is also fully covered.
If your employer went bankrupt, and you were under your regular pension age, you are entitled to a pension equal to 90% of the amount you had saved. This is subject to a government-imposed upper limit. For example, the cap from 1 April 2021 to 31 March 2022 for a 65-year-old is £41,461.07 (PPF). Apart from this, you also have indexed linking, which implies that the investment's annual growth is secured.
Lengthy Period of Time
A DB pension's benefits are guaranteed for the remainder of your life. Your pension income will be provided regardless of how long you live, as long as the pension plan itself is funded.
Death Benefits
In the case of your death, your spouse or beneficiaries will get half or a certain percentage of your pension fund at your normal retirement age.
Disadvantages of Defined Benefit Pension
Despite the advantages of a DB pension, there are certain drawbacks you may encounter in the future. Here are some reasons why some final salary pension holders think about transferring their pensions.
Limited Control
A final salary pension is less flexible than a defined contribution plan in several aspects. You cannot vary the amount of income you receive from it, nor can you withdraw greater lump sums you are constricted to the 25% PCLS lump sum for a reduced annual income.
Unadjusted Risk Profile
The profile of one pension holder may be substantially different from that of another. Some of our clients, for example, may have other considerable wealth and are eager to maximize the pension pot and take full advantage of tax-free growth instead of playing it safe. While some of our other clients may want to be on the cautious side and preserve the value of their pension pot, it may be one of their few assets, and they want to be extremely conservative with it.
Currency Risk
For instance, you have a UK final salary pension while living in the US, all of your pension and retirement income may be in US dollars. If this is the case, having a UK pension in Pounds exposes you to currency risk.
Beneficiaries
Your beneficiaries will not be able to inherit a final salary pension. If you die early, your spouse may be entitled to a widow's pension, but most of your benefits will be lost, and nothing will be passed on to your children. This is one of the most important reasons why some people choose to transfer their pensions.
Beneficiary Benefits Before and After Transferring a DB Pension
In a final salary pension scheme, a beneficiary can only receive 50% of the fund value from the pension holder’s pension pot. One of the primary causes, as previously stated, people choose to perform a DB transfer is because after they complete the transfer, they may pass on 100% of the value to their beneficiary. It is not limited to their spouse. They can pass their pension on to their partner, children, or anybody else they want.
Beneficiary Benefits Before DB Transfer
Let's look at an example.
You have £300,000 in your pension pot and are offered an annual pension of £10,000. You die as the pension holder 2 years before retirement. Your spouse is entitled to receive a lump sum based on the scheme rules, usually 2-4 times your final salary, and this could be £200,000 in this case.
Let’s say you passed away 10 years after retirement as a pension holder. Your spouse would typically receive a reduced annual pension income from the scheme based on the rules, typically up to 50%, therefore may be £5000 every year in this case. If the widower dies, the pension pot will not be passed on to the beneficiaries.
Beneficiary Benefits After DB Transfer
Let's say that you decide to transfer your Defined Benefit pension into International SIPP. If you die after a DB pension transfer is completed, your beneficiaries will get 100% of the total pension fund. If your pension pot is worth £300,000, or you've been withdrawing £10,000 for the past 5 years, your beneficiaries can still get another £250,000. In this case, you also have the option of making multiple payments to different beneficiaries.
So, Who Should Transfer?
Transferring to a defined contribution plan means foregoing a guaranteed income for life, which often rises to help guard against the impacts of inflation in exchange for a future income that cannot be anticipated with any confidence. As a result, you must determine if you are qualified to transfer your pension.
Transferring might NOT be suitable for you if:
- A final salary pension is your only retirement asset
- You have limited capital
- You have high outstanding mortgages
- You have few property assets
Transferring might be suitable for you if:
- You have a high asset outside a UK DB pension
- You want to maximise your pension
- You don’t need guaranteed income
We have a thorough discussion regarding all considerations to transfer out your Defined Benefit pension here.
Get Your Best Pension Transfer Advice at Cameron James
Transferring your final salary pension is an irreversible decision; you cannot go back in time and change your mind if you regret the decision to transfer your pension. Therefore, we highly advise that you consult a pension transfer specialist to determine whether a defined benefit pension transfer is in your best interests.
If your final salary pension is worth more than £30.000, you must legally seek assistance from an FCA-regulated adviser and firm to determine if a DB pension transfer is appropriate for you. Cameron James is one of the specialists you may take advice from.
Cameron James will assist you in deciding whether a defined benefit pension transfer is in your best interests, so you will not have to regret your transfer choice in the future. Our initial consultation is always free of charge. Click the link below and book your convenience date!
