The Pensions Regulator has issued draft guidance for trustees on the forthcoming new regime on transfer values. Consultation closes on 19 September.

The guidance follows the issuing of the Occupational Pension Schemes (Transfer Values) (Amendment) Regulations 2008, which will come into force on 1 October 2008 (see Pensions Update, April 2008). Trustees should review their processes for the provision of transfer values before that date.

Under the new regime the trustees, not the actuary, will become responsible for calculating statutory cash equivalent transfer values (CETVs), determining the assumptions to be used, after obtaining actuarial advice.

The legislation requires trustees to calculate the Initial Cash Equivalent (ICE), which is the amount the member’s benefits would cost the scheme. The trustees must set the assumptions on a “best estimate” basis. This involves valuing accrued benefits and any options (exercisable by the member without consent) or discretionary benefits the trustees decide to include. The Regulator states that only those options which would increase the value of benefits may be included (it is arguable that the legislation does not make this clear) - so any option which would reduce the ICE should be ignored and cannot be used to offset another option which would increase the ICE.

With regard to discretionary benefits, the Regulator suggests that trustees should consider established custom, any allowance made for these benefits in the scheme's funding plan and any consent requirements.

Trustees should recognise that "best estimate" is not a precise concept and will need to be pragmatic and reasonable in the light of advice obtained. They must seek the actuary’s advice on matters such as whether a particular assumption is likely to be influenced by scheme, industry or member-specific factors and whether it would be appropriate to divide the membership into groups. When setting assumptions they should consider the investment strategy, make evidence-based objective decisions and use assumptions consistent with those used for the technical provisions.

The alternative calculation method: trustees have discretion to calculate the cash equivalent in a different manner as long as it results in a higher figure than if it were calculated on the “best estimate” basis. The precise method is up to the trustees. They may increase the ICE only if they have obtained any necessary consents (usually the employer’s). The draft guidance gives examples of when this might be appropriate. Where the employer has requested CETVs on a higher basis than best estimate, the trustees must consider whether it is proper to do this.

Trustees may (but do not have to) reduce ICEs where they have an insufficiency report (replacing the GN11 report). Matters they should take into account include the degree of under-funding, the strength of the employer covenant and any recovery plan.

It will usually be convenient to commission an insufficiency report at the same time as a scheme funding valuation but trustees may commission a report at any other time, for example if there has been a weakening of the employer covenant or a change of assumptions.

Non-statutory transfers and transfers in are not covered by the legislation but the Regulator has included guidance on them. Non-statutory transfers (i.e. those not covered by the CETV legislation) should be calculated in accordance with the scheme rules, or where the rules are silent, as the trustees decide. The Regulator would usually expect the same approach as for CETVs. When calculating transfers in, matters the trustees should take into account include giving fair value, not prejudicing existing members and not requiring additional funding from the employer.

In addition to the communication requirements set out in the regulations (see our April issue), the Regulator states that it would be good practice for trustees to include with the member’s statement of entitlement:

  • details of the transfer value basis
  • an indication of which options and discretions have been included
  • a note of contracted-out benefits