A question of liquidity
FROM ANALYSIS FEB 20 2013 BY: CHRIS LEAN , IFA OPESFIDELIO
Pensions are rarely out of the news at the moment, and it’s clear to see
why. Never straightforward, they are becoming increasingly complex –
thus forcing the modern offshore pensions’ adviser to, it would seem,
possess a combination of 360-degree vision, a historian’s skill at
analysing the past, and a fortune teller’s ability to predict future
Curve balls are swinging in from all directions, as goalposts move faster around the pitch than an
While all of this is going on, it is worth giving a thought to a key but sometimes overlooked element
of UK pensions that is starting to crop up with increasing regularity in discussions about pensions
The matter of liquidity ought to come into play early on in the pension-building process, since the
starting point for anyone advising on a personal pension arrangement involves determining what,
exactly, constitutes a suitable investment.
Certainly many Self Invested Personal Pension ( SIPP) trustees are examining the liquidity question
with fresh eyes now, as as they contemplate the new SIPP rules.
That's because, should these rules be implemented – as proposed by the FSA's consulation paper on
SIPPs, published last November – then the capital adequacy requirements of SIPPs could increase 10fold.
The FSA consultation paper includes a list of "standard" assets, while others, such as those invested in
unregulated collective investment schemes (UCIS), will be subject to a surcharge. The FSA reasons that
this is needed because these assets would take longer to transfer, in the event that a SIPP firm were to
have to be wound down.
Firms would be required to hold core capital, to meet the standard capital requirement, in a form that
could be realised within a year. Capital held against the surcharge, to cover the risks of more complex
investments, would have to be kept in a form that could be converted to cash within 30 days.
To some extent, some of these considerations should also be taken into account by advisers who are
recommending Qualifying Recognised Overseas’ Pensions ( QROPS) to their clients.
What a pension is for
At this point, it is also worth reminding ourselves what a pension is for: that is, what it is supposed to
provide to the pension holder and his or her beneficiaries.
Income in retirement for the member and/or spouse, or death benefits for the spouse and other
dependents, most people would say.
Therefore, is it important that the investments within the pension fund are capable of providing
income or death benefits, as and when the situation dictates.
So in the event of the death of the pension holder, assuming he or she has never purchased an
If the individual who owns the pension dies during his or her retirement: the funds should be
able to continue to provide an income in drawdown, be available as a lump sum to buy an
annuity, or to make a lump sum payment to his or her dependant(s).
(With respect to the latter, should a surviving spouse not wish to continue with income drawdown in a
SIPP, then HM Revenue & Customs will want 55% of the fund in tax; QROPS, however, for long-term
non-UK residents, will not suffer this tax charge.)
If the individual who owns the pension dies before he or she retires: the fund should be
available as a lump sum for his or her dependants/beneficiaries.
Generally speaking, therefore, the trustees of pension schemes should consider the liquidity of the
funds their schemes invest in, with a keen awareness at all times of the need, ultimately, for the
schemes to pay benefits – (which, we have established above, is the purpose of the pension in the first
In other words, they must think about the ease with which the component investments might be sold,
and be keenly aware of any cost or early encashment penalties that might exist or accrue.
Lump Sum Death Benefit- SIPPs
It is very important that the trustees be able to distribute the fund to the dependants and/or
beneficiaries within a reasonable timescale, when the time comes. For one thing, these funds may well
be urgently needed by those family members who were financially dependent on the deceased.
Secondly, the investments must be able to be sold, surrendered (without huge penalties), or assigned
within two years of death. Failure to do so will, as mentioned, incur a 55% unauthorised payment
charge on the fund, and could cause huge financial problems for the beneficiaries.
The option to hold on until an investment matures, or a building is completed or sold, therefore, may
well be a luxury that cannot be exercised.
Pension transfers to SIPPs and QROPS
There are a multitude of well-trodden issues to consider before transferring a pension to either a SIPP
or a QROPS, one of them being the death benefits.
It is clear, from some of the advertising that we have all seen, that often it appears that the only reason
for the transfer is to provide better death benefits than the ceding scheme.
Without going into the rights of wrongs of this being an acceptable sole reason for a transfer, the
adviser must take into account the liquidity of the investments if death benefits are deemed to be
important to the client. This is particularly important if there will be no other capital available for the
New classes of assets for pensions have been surfacing for some time, and are becoming more and
more popular for use in pensions, including such entities as structured notes; land banking, forestry,
and biofuels-based funds; traded life settlements, and off-plan properties in exotic locations.
While many of these investments will hold attractions for some investors, a pension adviser
considering one or more of them for a client's pension must keep liquidity at the forefront of his
considerations. If such investments are deemed to meet the client's needs and objectives, an adviser
might recommend a term assurance product as a back-up, to cover any potential loss of death
benefits during the relevant investment period, just in case.
Questioning the wisdom
Meanwhile, the FSA and leading pension commentators have recently begun to question the wisdom
of some of these investments forming a large part, or indeed all, of anyone's pension fund.
Liquidity, they are pointing out, needs to be sufficient to allow the payment of benefits and,
importantly, sufficient to cover the running costs of the SIPP. A SIPP cannot go overdrawn,and should
not expose itself to possible future unknown liabilities.
Already, some SIPPs are hitting the buffers, and the situation is likely to get a lot worse soon, if recent
press reports are to be believed.
Food for thought
If, as an adviser, one of the reasons you are recommending a client transfer a pension is the death
benefits, then the ability to redeem, sell or assign the investments has got to be an overriding
consideration. No one wants to get hit by that curve ball, and miss the goal.
And there is no question that if you get the levels of liquidity wrong in the pensions you advise on, the
consequences for your clients, and their families, could be severe.
To see and download the FSA's consultation paper, A new capital regime for Self-Invested
Personal Pension (SIPP) operators, click here. The deadline for comment is 22 February 2013.
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