Guidance on incentive exercises / annuities legislation – the pre-Christmas flurry


The pensions pre-Christmas rush is in full swing. With only 12 shopping days to go, key institutions are racing to get their publications out of the door. The latest festive offerings come from TPR and HM Treasury respectively, in the form of final guidance on incentive exercises (the “Guidance”) and theGovernment’s response to consultation (together with draft legislation) on removing the requirement to annuitise by age 75.

In this Alert:

Key points

  • TPR’s basic stance as regards incentive exercises remains the same – trustees should be cautious, starting from the presumption that they are not in most members’ interests.
  • However, the Guidance now recognises that it may be beneficial for certain members to accept such offers.
  • With effect from 6 April 2011, individuals with DC pension benefits will no longer be required to purchase an annuity by age 75.
  • Most of the rules preventing registered pension schemes from paying lump sums to members who have reached the age of 75 will also be removed.

What is an incentive exercise?

An incentive exercise is where a sponsoring or associated employer of a DB scheme seeks to remove some or all of its liabilities by persuading members to transfer or modify their benefits. This is usually accompanied by some form of financial incentive.

TPR’s guidance applies to exercises where members are asked to make a choice regarding benefits already accrued. However, it is not intended to cover proposals for schemes being closed to future accrual or other modifications which only affect the future accrual of benefits.

The guiding principles

The final version of the guidance has changed little from its earlier incarnation.1In addition to any legal requirements, TPR expects an incentive offer from an employer to scheme members to adhere to the following five guiding principles:

  • Principle 1: Clear, fair and not misleading – members should be able to understand the implications of the offer and make the right decision for them;
  • Principle 2: Open and transparent – everyone involved should be made aware of the reasons for the exercise and the interests of the other parties;
  • Principle 3: Manage conflicts of interest – conflicts should be identified, appropriately managed and, where necessary, removed;
  • Principle 4: Trustee Consultation – the trustees should be consulted and engaged from the start and their concerns (if any) alleviated;
  • Principle 5: Independent financial advice – should be made accessible to all members and promoted in the strongest possible terms.

Members’ interests

The guidance still emphasises that, in TPR’s opinion, incentive exercises are not generally in members’ interests. However, it does now acknowledge that there will be individuals who would benefit from accepting such an offer. For example, those whose life expectancy is impaired or sophisticated investors looking to balance the risks in a portfolio of retirement benefits. TPR believes that high quality financial advice will be key to identifying these people.

Need to annuitise is (nearly) over

From 6 April 2011, individuals with DC pension funds will no longer be required to purchase an annuity before the age of 75. Capped drawdown2 will be available to anyone over the age of 55, with individuals who satisfy a “Minimum Income Requirement” (MIR) able to draw down unlimited amounts from their pension pots. The purpose of the MIR is to ensure that individuals have sufficient secured income to avoid the possibility of them “exhausting savings prematurely”, and subsequently falling back on the State. The MIR will initially be set at £20,000 and then reviewed at least every five years.

In addition, also with effect from 6 April 2011, most of the rules preventing registered pensions schemes from paying lump sums to members who have reached the age of 75 such as pension commencement lump sums will be removed.

1 For details see our Alert: “TPR issues draft guidance on transfer incentives” dated 15 July 2010

2 The cap will be set at 100% of the equivalent annuity, broadly the single-life level annuity that could have been bought with the pension fund using annuity rates set by GAD, and will be subject to review