Final salary schemes
Final salary pensions also known as defined benefit schemes have been the talking point over recent years due to over 75% of them being underfunded. This means they don’t have enough money to pay retirees their pensions. Guarantees for final salary schemes have been heavily under pressure since gilt rates and interest rates have hit record lows. This means employers have had to take more risk to meet these guarantees that were promised years ago. The deficit for defined benefit schemes increased by £80bn Friday and even further going into the start to the week. With the current funding required from UK companies to reduce this deficit, it is now under more pressure as a recession becomes ever more likely which in turn would mean less profit for companies, reduced amount of contributions to reduce the deficit hence a greater deficit. What does this mean for these pensions? There is no simple answer although for people who were concerned their pension wouldn’t have the money to pay them out before the Brexit vote certainly have more to worry about now. This is without even taking into account the reduced GBP which effects any expat living and drawing from their pension abroad.
Annuities
Annuity rates are already at record lows due to an increase in life expectancy and a decrease in gilt rates. Life expectancy is only going to increase which means the important short term factor to consider is the gilt rate. After Fridays Brexit vote, UK gilt rates dropped to record lows which took a further blow to annuity rates. Even after the credit rating was downgraded in the UK, this did not stop the inflow into UK gilts which pushed yields to record lows. The once called safe retirement option has now become an unfavourable option even for the lowest risk taker retiree. For people living abroad you have the further risk of the falling GBP which dropped between 6-10% against its peers Friday. Since 2011, when it no longer became an obligation to take an annuity with your pension, it has become one of the most expensive and poor performing option for your pension. Below illustrate how low rates have gone with reference to the telegraph.
State pensions
Currently, state pensions increase by either the average earnings, inflation or 2.5% – whichever is higher. The ‘triple lock’ is now under threat as David Cameron threatened to ditch this valuable benefit if UK voted out. This would save the government billions at the expense of retirees which is currently the UK’s largest concern – Too many people taking money without contributing taxes, even if they have earned it! For people living abroad this could mean that your state pension will no longer increase and will therefore be a flat rate for the rest of your life.
Currency
The GBP had its worst ever trading day since records began Friday falling over 10% against the USD and 7% against the EUR. Most UK pensions don’t have the option to have a mixed basket of currencies which would have seriously affected expats with GBP denominated pension schemes Friday. If you are an overseas expat it has never been more important to look at the options, you have with your UK pension for the above reasons. A QROPS will allow multi-currency portfolios to diversify away currency risk where needed. Having control over this could significantly affect your retirement pot. The long red bar below shows how much the GBP devaluated against the USD on Friday.
Investments
UK pensions of course have a bias toward favouring UK investments compared to overseas investments. For someone living in the UK or an expat living abroad it may not be the most favourable option. Firstly, since the Brexit vote last Friday, the risk that the UK will go into recession has increased. If you are exposed to UK equities only, then you could be facing a serious downturn in UK markets. UK gilt yields have also hit record lows which further confirms the argument that overseas investment strategies could become more favourable in the foreseeable future. If you live overseas then a QROPS will provide much greater flexibility on your investment choice.
UK legislation changes
With the ever growing deficit in pensions, gilts at record lows, annuities at record lows, growth in the UK substantially low and interest rates at record lows it is very difficult to see a way out of this pension black hole. It’s important to note that the PPF (pension protection fund) is not backed by the treasury hence there is no guarantee your pension will be saved if your pension provider goes into liquidation. Will legislation change to try and sort this crisis out? Only time will tell but one thing that looks imminent is that it will probably disfavour the pensioner. There have been talks of reducing the pension commencing lump sum, reducing the triple locked increase, reducing the guarantees in pensions, and many more. Most of the discussions about changes has been to un-favour the UK pensioner. By transferring your pension out of the UK into a QROPS you will set yourself free of any further changes to UK pension legislation.
What options do I have?
If you live abroad, you have a choice to leave your pension in the UK or transfer it overseas into a QROPS. Given the risks associated in the UK, this could significantly benefit your retirement.
- QROPS could eliminate currency risk as you can choose the currency your pension is denominated in rather having one option – GBP.
- Transferring away from an underfunded scheme means you no longer face the risk that the pension goes into the PPF.
- You have greater choice of investments which would allow worldwide funds rather than favouring UK markets – this could diversify risk.
- On transferring, you take your pension out of the UK legislation completely. This means if any further changes are made they won’t affect your pension. Concerns that are being talked about at the moment include taxing the pension commencing lump sum, removing double taxation agreements between the UK and other member states, removing valuable benefits in certain pension schemes and many more
- Possible 30% tax free lump sum
- 100% passes down to your beneficiaries
- Eliminates UK pension death tax which currently taxes you up to 45%.
It has never been more important to analyse your options. To have a free overview on your options please contact us.
