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  • Writer's picturePeter Feighan

Anyone for the Last of the ARFs

Before Christmas the Interdepartmental Pensions Reform and Taxation Group (IDPRTG) published a document running to 145 pages long.

I read every single page but I don’t expect you do the same so the appendix contains a summary of the conclusions which is a bit more digestible.

All in all, there are some very sensible proposals here that will help simplify pensions for consumers and if they are implemented it should help attract more people to save for their retirement which is the primary objective.

However, this report took two years to produce and I guess you may have noticed that of the twenty two conclusions made, half of them will need more research, more analysis, new legislation to be drafted and amendments to existing legislation. I think it will take another presidential term before we see material change that starts to unwind the majority of the unnecessary complexity that exists within our pension system today.

One of the interesting elements to this report and the area I am going to discuss in detail is the focus on post retirement drawdown and in particular, Approved Retirement Funds (ARFs) – it seems clear to me they have concerns about ARFs and they want to reign them in a bit.

Let’s look back to the beginning – Charlie McCreevy the Minister for Finance back on the late 90’s and his department came up with the ARF concept and in fairness it was a very good one. Why should people retiring automatically have to buy an annuity? The ARF provided flexibility to individuals to manage their own retirement funds and access income specific to their circumstances. It also allowed the transfer of funds to the next generation on death.

That all sounds great but the ARF was only accessible to Proprietary Directors with occupational pensions and self employed people initially. But guess what, their tax advisors saw an opportunity and boy did they go for it! Back then there was no pension cap, you could accumulate as big a fund as you wanted, you got generous tax relief on the contributions, tax free growth, a tax free lump sum and now you were being given the opportunity to pass all this money to your spouse or children with very little tax. It was utopia for tax advisors and the pension industry and between 2000 and 2007 there was not a developer in this country without an ARF and in many cases their spouse had one too. It got to the point where individual ARFs of €10/€15 million were not uncommon.

Post the financial crisis in 2008, pensions came under severe scrutiny and were targeted by policy makers. A temporary pension levy was introduced on all pre-retirement pensions, ARFs were excluded (another benefit afforded to ARFs!) The most significant change was the introduction of a pension cap to restrict tax relief and to stop the tax planning that had been going on prior to the crisis.

If we fast forward to today the ARF/AMRF market is valued at around €15 billion. The average pot is about €178,000.

So what about these new proposals/recommendations. Well, in short it gets rid of ARFs and replaces them with:

1. In-Scheme drawdown and

2. A Whole of life PRSA

Looking at In-Scheme drawdown first, this is simply allowing a member of an occupational scheme to remain within the scheme post retirement and drawdown their benefits for the remainder of their life. In theory this concept looks a good one, the member is not faced with the daunting prospect of managing the transition from pre to post retirement on their own as the scheme provider will offer advice on their options and that will see the member right through retirement. In reality that is the biggest problem with this concept. Currently pension providers will simply give you your options, after that the member is left to their own devices. The IDPRTG acknowledge the need for ongoing advice through retirement but the question is will the pension scheme provider be willing to do that? It will add significant cost to the pension scheme provider and to what level will that benefit the member. The view is that a large scheme achieves economies of scale for the member and therefore lower costs but providing detailed advice will add significantly to their costs which will passed on to the the member through higher management fees on assets or consultancy charges. The original objective may have a negative outcome for the member.

Another question is, will employers and trustees want the responsibility of managing former employees retirement needs? I doubt it very much! The legal and tax responsibilities around this are significant so why take it on? To that end, the concept of “Group ARFs” are mentioned in the report, so put a load of ARF holders into another group scheme akin to a “Master Trust” type arrangement. This will lead to better consumer outcomes due to economies of scale, better communication to members and access to default investment options. The use of default options means less need for advice according to the report which I don’t believe is a valid argument. The one thing retirees need the most is good advice, specific to their individual circumstances. What is likely to happen under Group ARFs is generic advice based on common assumptions and through inertia the majority of individuals will fall into the default investment option. These are common issues associated with many occupational pension schemes pre retirement.

Finally who is going to provide these Group ARFs? This market is going to be dominated by the large insurance companies given they are the only ones with the infrastructure to build such a product. Therefore, pricing, access to advice and investment options will be driven by them ultimately. A lot of thought needs to be given to how this option is going to be designed and delivered to ensure the consumer gets what they require.

Let’s look at the Whole of Life PRSA. Well, this already exists in the form of a “Vested PRSA” but unfortunately back in the day when the PRSA was being designed, it was decided that a “Vested” PRSA must be converted to ARF at age 75. Removing this requirement makes absolute sense and removes the need for additional red tape and bureaucracy for PRSA holders when they reach age 75.

With a few additional tweaks to charges allowable and investment rules, the Whole of Life PRSA would be fit for purpose. The PRSA is well regulated and is covered by the Consumer Protection Code (CPC) so retirees have more protection when investing their retirement savings. Where the gap lies is in relation to ongoing advice around investment strategy and sustainability of funds through retirement i.e. “Bomb Out” risk. The financial advisor market has a duty of care to ensure clients receive ongoing advice specific to their needs so in terms of which option I would choose I would go with the Whole of Life PRSA over In-Scheme drawdown given the issues I outlined above. If that duty of care needs to be enhanced by some additional regulatory requirements I do not have a problem with that.

In summary, there is a lot of change on the way and the sooner the better from a consumer perspective. Will they get rid of ARFs – not at all, it will be reincarnated in the form of an improved Whole of Life PRSA and will continue on as normal.

Appendix – Summary Conclusions from the IDPRTG Report 2020

1. Revenue will review and update the Pensions Manual to reflect any changes introduced on foot of the Pensions Roadmap process.

2. BOBs and RACs should cease to be available as Third Pillar pension saving products on a prospective basis. The PRSA should operate as the sole personal pension product.

3. Existing BOBs and RACs should be allowed to run-off over time, retaining their existing product features, terms, and conditions. The proposed changes to the PRSA set out in Chapter 3 should facilitate transfers from BOBs.

4. In order to facilitate the prospective cessation of BOBs, the provision in the TCA banning transfers to PRSAs for scheme members with more than 15 years qualifying service should be removed.

5. In order to facilitate the prospective cessation of BOBs, Section 122(2) of the Pensions (Amendment) Act 2002, should be commenced in order to permit existing BOB holders to transfer to PRSAs.

6. Direct transfers from existing RACs to occupational pension schemes should be provided for.

7. Allowing discounts to be offered in the case of bulk transfers from schemes to PRSAs should be provided for.

8. Ring-fencing of lump sum benefits within a PRSA to allow for a salary and service based lump sum for the portion of assets related to a transfer in from an occupational scheme should be provided for.

9. The Pensions Authority will reconsider the requirements in relation to the provision of Certificates of Benefit Comparison, in particular in relation to transfers to PRSAs from DC arrangements, and make recommendations to the Department of Social Protection for legislative change where necessary.

10. In view of the recommendation to eliminate RACs on a prospective basis, the ability to avail of life cover, in-line with that which is currently provided for in Section 785 of the TCA with respect to RACs, should be retained. This could be provided for either on a standalone basis or as part of a PRSA.

11. As far as possible, and consistent with the objective of rationalisation and simplification, the transposition of the PEPP Regulation should aim to align with existing PRSA legislation. Any PRSA or contract-based pension reforms introduced prior to PEPP transposition should be cognisant of PEPP and aim to avoid anomalies or the duplication of product legislation.

12. The Pensions Authority will review the PRSA product approval process with a view to eliminating the need for pre-approval in the case of non-material changes to an existing PRSA product.

13. In order to manage and contain costs, PRSA communication requirements should be primarily in electronic form, in-line with IORP II and PEPP. Consideration will also be given to enhancing communication requirements in the area of transferability.

14. The Pensions Authority will examine whether charging rigidity acts to limit investment choice for PRSA providers and if amendments to the non-standard PRSA are required to facilitate transfers from single member schemes.

15. The Pensions Authority will review the use of / need for multiple PRSAs by individuals and will identify whether any changes to the product should be advanced.

16. Where changes considered appropriate by the Pensions Authority require legislative amendment, the Pensions Authority will put forward recommendations to the Department of Social Protection for consideration.

17. The lower age limit at which savers can access retirement benefits should be increased to 55. Consideration should be given to providing for a lead-in period to allow those retiring early in the shorter term to do so.

18. The upper bound of ‘normal retirement age’ should be increased to age 75.

19. To the extent possible, the respective definitions of ill health to access benefits at any age before age 60, should be harmonised

20. The mandatory requirement to purchase an annuity having taken a lump sum based on the salary and service methodology should be abolished. The ARF option should also be available to the DC element of pension savings where an individual has DB and DC entitlements from the same employer.

21. The differential treatment of the PRSA for funding purposes should be abolished, employer contributions to PRSAs should not be subject to BIK.

22. As an alternative to compulsory annuitisation, the ARF option should be available for excess funds remaining after the payment of the maximum death-in-service lump sum.


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