Actuarial Post: Providers face witch-hunt on exit charges
This article was originally commissioned for the July/August 2015 edition of the Actuarial Post.
In Arthur Miller’s play ‘The Crucible’, a witch-hunt kills many innocent victims as hysteria, rather than rational analysis, takes hold in the small village of Salem in Massachusetts in 1692. All rational explanations are tossed aside in favour of any excuse that backs up the original accusation of witchcraft. The accused are helpless against a power that is determined to see any action as a support for their theory. And so many innocent victims are persecuted and executed, while those doing the executing suspend all rational faculties.
Pension providers must feel that they too are in the crucible, as politicians and journalists attack them on a daily basis on the issue of exit charges from pensions. No justification is tolerated, or even listened to, as the crowd is baying for blood, and politicians and regulators rush to put themselves on the side of the angels in what is becoming an unedifying spectacle and an example of mob rule at its worst.
Pension freedoms have ushered in a new era of possibilities for retirees in terms of how to use the money they have saved but no one knows quite how to deal with the older contracts, which were signed in the previous era when these freedoms were unimagined. Many of these pensions have large penalties attached if you try to transfer out.
Pension providers are being attacked for not providing the freedom to operate as a bank account, despite the fact that they are a private business, and many do not want to enter the banking market in any way. Many pensioners, wishing to transfer to other providers who are providing this service, are faced with an exit charge. This charge is being misconstrued as an attempt to ‘cash-in’ on the pension freedom changes instead of being rationally analysed to see why those charges were deemed appropriate in the original contract, and whether the case for them still holds.
When the plans were originally taken out, the legal framework for pensions was completely different and as a result both the products provided, and the rules associated with them, were different to what is needed today. No doubt the products being created today will be perfectly suited to the exercise of those freedoms but it’s not just a simple matter of applying those freedoms to the existing pension contracts, which are essentially caught in the crossover period.
Rather than admit that it is a complicated area that needs careful consideration, politicians and commentators are reaching for the broad brush of the tabloids, and are smearing all pension providers with the stigma of being part of the ‘rip-off’ culture. Possibly some of them are but most providers are merely abiding by the details of the contract with the pensioner, who freely entered into it.
There are many good reasons why some of the schemes have exit fees. When many of these contracts were sold, upfront commission was paid to the IFA based on how long the policy would be with the company. Or there may have been ‘starting bonuses’ given to the policyholder, again posited on the fact that the policyholder would remain with the firm. To ignore these in calculating exit fees would be to disadvantage the rest of the policyholders who remain with the company, and would be treating those customers unfairly. In passing, it is worth noting the length the government went to when changing the state pension to a basic pension to disadvantage as few people as possible. Surely it behoves private companies to hold themselves to the same standard. Indeed it is admirable that they are doing so, rather than giving in to the clamour from politicians and the popular press, and thereby reduce funds for remaining policyholders, even though few enough of them would be able to work out that it was happening.
If one looks at the rest of the economy, price controls are notable by their absence. Essentially controlling prices, so much in vogue in the sixties and seventies, was abandoned as it generally had unpredictable effects and distorted the market. And even with them, it is impossible to block every way of getting around them so the firms that are determined to rip people off will still manage to do so. It is far better to stick to the existing approach of making sure that the charges are as transparent and comprehensible as possible, and then leaving it up to the market to control them. Further education in financial products would also be beneficial in helping people to understand the prices, but there is a limit to what can be done to eliminate the need for a caveat emptor approach by consumers.
The key thing the politicians and journalists hopping on this bandwagon should remember. If they force the pension providers to absorb excessive costs by capping legally binding charges then they will force the cost onto those policyholders who remain, perhaps because they are too young to take their pension freedoms yet. And that will be about as good a demonstration of justice as they managed in Salem over three hundred years ago.
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