AIG Pension's Nigel Hewett looks at the rising popularity of flexible USPs and reveals how, in the current climate, it is more important than ever the adviser takes responsibility in ensuring a product meets a client's needs
Despite what was allegedly a simplification of pension legislation in April 2006 things appear to be getting ever more complicated. The omens were not good when the Chancellor pulled residential property as a permitted pensions asset class immediately prior to launch. Then, as soon as the new regime went live, the noises emanating from No 11 continued to worry as Ed Balls pontificated about how the Treasury could implement different pension tax regimes for different religions. This culminated in Gordon Brown taking an axe to Alternatively Secured Pensions and inflicting grievous bodily harm while at the same time completely decapitating Pension Term Assurance. Who said pre-Budget Reports were boring? Certainly not in 2006. With more U-turns than most people's plumbing it would be useful if we could read the Chancellor's mind. But these changes suggest that even he doesn't know what to think.
In the mean time IFAs have been valiantly trying to help clients. To be fair, so has the FSA. But you get the impression that even they wanted to throw in the towel when it came to asking clients about their religious persuasion.
But through it all the FSA has continued to invest time looking at pensions, and in particular Unsecured Pension (USP). Through consumer testing and mystery shopping, the FSA has spent some time looking at the sale of such products particularly to those customers with under £100,000 to invest. It seems the FSA has developed a good understanding of how this market operates and what customers need.
Many clients have long thought of annuitisation as unattractive for various reasons, for example, it may be difficult to anticipate how lifestyle and health could change in the future. Therefore, the ability to 'flex' income to fit in with changing circumstances is a valued product feature. And should the worst happen, annuity rules state that the 'remaining' asset goes to the provider rather than the client's heirs. A client may be financially better off buying an annuity, but psychologically many may feel far more comfortable with the flexibility of USP. Which, it appears, every one now appreciates.
The adviser should be aware that there will be an additional need to provide on-going service to support USP that will not be required if they recommend an annuity. The CP06/19 Consultation paper the FSA has put out to the industry indicates a change in FSA perspective, shifting away from detailed rules to focus on outcomes. It is referred to as NEWCOB. It is predicted that more emphasis will be placed on the sale of the product and how it might work for the customer throughout its lifecycle.
If the consultation is successful and the changes are as proposed, then it's likely the FSA will look to product providers to take a significant degree of responsibility to measure whether, in general, their products continue to meet the client needs. Providers may have to take significant steps to ensure they have sufficient management information to demonstrate their product works as intended throughout its lifecycle. This approach could in effect steer providers to take de facto responsibility for parts of the IFA compliance regime. However, it may be difficult to see this sitting comfortably against what has always been an easily defined and distinct relationship between the IFA and the provider.
With the proposed NEWCOB changes, it could be important for both advisers and providers to come to some sort of informal agreement as to how products like USP should work for a client throughout its lifecycle. If this is not carried out, there could be scope for a possible conflict of opinion. For example, many advisers believe the correct approach is to invest the pension fund in a wide range of assets for the long term but drain the current income payments from a cash pool. If this is deemed standard practice for Treating Customers Fairly, then it may become important for advisers to reach an agreement on standards and that providers agree to offer the products and services to support these standards. It becomes ever more important to ensure the individual plan is serviced through to the end of its lifecycle. This would mean advisers will need to ensure they continue to monitor this plan and make changes as and when necessary. In the unfortunate event this does not happen, if the new rules come into place, the provider might be forced to make a report to the FSA. This could strain the relationship between the adviser and provider.
To avoid the potential need to report, it is important advisers structure the recommended product with the various on-going servicing requirements in mind. In most cases this could mean that adequate trail commission is specified at outset to cover the cost of this servicing. Trail commission can be added or increased during the term of the plan but it would require the client's consent. This does not sound like a desirable option but an important consideration nevertheless. The level the adviser and client agree on should be dependent on the individual circumstances, and should be chosen such that it is clear that the value of the product easily outweighs its price. This could prove to be important for NEWCOB when it comes to fruition as the FSA now talks about providing value for money.
Consideration must also be given to what could happen should the circumstances of the client change. Given the clients' likely age range, most may wish to avoid any penalty charges for flexing their income. If this is the case, they could question the benefit of USP as opposed to an annuity. And, in many situations, clients will no longer be building up further savings so the ability to move from an underperforming provider free of penalty could also be considered essential.
Given the long-term nature of most policies it is important to invest in a broad and appropriate range of assets. It is also important to consider where the income payments are going to be taken from. The product provider should have systems capability to ring-fence a fund or funds from which the payments will be taken. In terms of the 'broad range of assets', the provider should offer a range including guaranteed funds, equity funds and fund of funds. The adviser's ability to construct an appropriate portfolio of assets that matches the client's attitude to risk is essential as is the ability to monitor this portfolio and make changes, should the client's asset allocation model move too far from the ideal.
