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De-Coding Small Lump Sum Exercises

11 March 2016

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Alison Bostock looks at the benefits of the revised Code for Incentive Exercises.

The Code of Practice on Incentive Exercises is a brilliant example of the pensions industry working together to solve a problem.

Many people felt uncomfortable with cash incentives offered to members to transfer out their DB pensions or give up their future pension increases.

When the voluntary Code was first published in 2012, I think it achieved the difficult task of allowing existing good practices to continue more or less unchanged whilst eliminating bad practice.

The Code was popular and well respected by the industry and you can see the evidence of this by the number of organisations that publicly signed up on its website as supporters.

It was therefore something of a curve ball in December 2014 when a 'frequently asked question' was posted on its website confirming its opinion that the Code applied to trivial and small lump sum commutation exercises.

These exercises offer existing pensioners and those eligible to retire immediately the chance to cash out small pensions in return for a lump sum.

After the changes made in March 2014, ahead of Freedom and Choice in 2015, the limits for these lump sums were increased significantly, from GBP 2,000 to GBP 10,000 for Small Lump Sums and from GBP 18,000 to GBP 30,000 for Trivial Commutation.

Some schemes moved quickly to run exercises to offer these payments, although the majority would not have provided financial advice or guidance.

In their minds, they were simply enabling more members to choose to receive a meaningful lump sum rather than a tiny regular income, in the light of a welcome change in legislation.

After the FAQ was published, we found ourselves in a strange situation.

A member could request and take a transfer out from a DB scheme of up to GBP 29,999, without the need to take financial advice.

But it looked as though a scheme could not write as part of a bulk exercise to a member with a small pension to offer a sum of GBP 3,000, unless financial advice or guidance was paid for.

Legal advice differed on how the Code should be interpreted and schemes that had not moved quickly enough felt uncomfortable about proceeding with an exercise that might be in breach of the Code.

To me, this again showed how seriously the Code was being taken, and there was some danger that its credibility would be damaged by this uncertainty.

I was therefore very pleased to see this position cleared up when the revised Code was published on 1 February 2016.

Alongside the Code were some very helpful "boundary examples" to illustrate where the Code starts and stops to apply.

Small lump sums are quite clearly excluded from the need to offer advice or guidance by the new proportionality threshold of GBP 10,000.

One of the boundary examples shows how an exercise can be done as a "reminder" without advice or guidance, provided that it is not time limited.

So schemes that had been holding fire on small lump sum exercises now have the green light to proceed, provided they use carefully designed communications.

The relatively few amendments to the new version show that the Code has stood the test of time over its first 3 or 4 years – pretty impressive when you think of how much has changed in pensions in that time.

Written by Alison Bostock, Client Director, PTL.