Incentive Exercises for Pensions – Code of Good Practice

Clare Caswell

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An updated version of the Code of Good Practice for Incentive Exercises for Pensions was recently released following a review of the Code by the Incentive Exercises Monitoring Board.

Incentive Exercises (IE) are projects typically instigated by a pension scheme employer in which members are offered the opportunity to amend their benefits or to transfer their benefits out of the scheme. These exercises often include the provision of Independent Financial Advice for the members, paid for by the Employer, and can also include an enhancement to the members’ benefits.

Employers with the support of the Trustees will often run these exercises with the aim of reducing their scheme liabilities, and also to give members the opportunity to reshape their benefits to suit their lifestyle rather than being constrained by the structure of the scheme’s rules.

The Code of Good Practice for Incentive Exercises was introduced in 2012 and provided a framework for advisors and those running such exercises to ensure best practice. The Code provides comfort that appropriate guidelines are being followed and that exercises are carried out fairly and transparently. Its aim is to ensure that incentive exercises are communicated in a balanced way that members can understand.

There are a few changes from the original 2012 version of the Code but these changes are largely to clarify existing points within the Code rather than to introduce any new requirements. A short summary of the key changes follows below:

  • The definition of “Modification Exercise” has been updated to include a “Full Commutation” exercise.   A “Full Commutation” exercise is defined as an offer made as part of an exercise where a member or members of a UK registered defined benefit pension scheme are offered a cash lump sum in full replacement for a pension that would otherwise have been available to them.
  • The Code previously only referred to “the party initiating the exercise, typically the employer”. The Code now specifies other parties in addition to the Employer, e.g. the Trustee, throughout.
  • The original practitioner notes which accompanied version 1 of the Code are no longer in use.  In supplement to version 2 of the Code, boundary examples have been published to assist users in deciding when the Code should apply in situations which border between business as usual and Incentive Exercises.
  • A “Proportionality Threshold” has been introduced which changes the “Modification Exercise” requirement for smaller pensions.
    • For Transfer Exercises and similar, this threshold applies where a member is being offered a transfer value of £10,000 or less;
    • For Full Commutation exercises and similar, this threshold applies where a member is being offered a cash payment of £10,000 or less;
    • For Pension Increase Exchange exercises and similar, this threshold applies where the pension that can be modified under the offer for a particular member is a pension of £500 per annum or less;
    • The Proportionality Threshold should be applied cumulatively (for example, the threshold would apply to an initial offer of a Pension Increase Exchange modification of a pension amount of £400 per annum, but would not apply to a subsequent offer to the same member for a further modification of a pension amount of £100 per annum or more).
  • Where guidance is required to be provided to members this is now referred to as “IE Guidance”.  A comparison table is included in the Code to highlight the differences between IE Guidance and the DC Guidance Guarantee as provided by Pension Wise.
  • A member advisor must now consider the implication of the exercise on other parties e.g. spouse.
  • A Transfer Exercise now also includes an exercise which offers the conversion of safeguarded DB rights into flexible DC benefits.
  • A Pension Increase Exchange may also be referred to as a Flexible Retirement Option.
  • The IE Monitoring Board maintain the position that the matter of Wind Up Lump Sums (“WULS”) sit outside of the Code but it is recognised that the industry could see a growth in the use of WULS as Incentive Exercises.  The Board will consult the industry during 2016 to decide whether or not the Code should be more specific on the subject of WULS.

If you are interested in discussing the potential for your scheme to engage in an incentive exercises and would like to know more about the benefits please contact your usual Spence & Partners contact or Richard Smith, head of our corporate advisory practice.

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