Dual Standards

In the bundled Corporate Pensions world, new charging
structures have been appearing and some old
”favourites” have been re-appearing. Thankfully there’s
been no sign yet of initial and accumulation units, but one
that has resurfaced is an additional charge for paid-up
policies (PUPs).

People either seem to love or hate the idea of a higher
Annual Management Charge (AMC) on paid-up policies. To its supporters it’s the ‘Active Member Discount’ while its
detractors view it as the ‘PUP Member Additional Charge’.
I will compromise and call it the ‘Dual AMC’ model.

The benefits of having a Dual AMC are straightforward. For employers, it rewards long-serving members and for fee-based advisers it’s another option they can offer to employers. Perhaps the main drive, though, has been from providers and commission-based advisers. Both can expect to earn more from the Dual AMC approach, which also offers a low headline price, similar to a discount rate for a mortgage.

But what benefits do Dual AMCs give to the employees?

Well, among employees there are winners and losers. Dual AMCs arguably reduce cross-subsidies by charging early leavers a larger share of set-up costs. Long-serving members should therefore win. But how long serving do you have to be in order to win? Our calculations suggest that, in a fairly typical scenario, with a 30 year old on a 0.75% AMC rising to 1.25% AMC if paid up, you would need to pay 23 year’s worth of premiums to have a better projected fund at 65, when compared to a standard 1% AMC contract*. In today’s employment climate, the question must be whether this is taking “long-serving” a bit far. Medium-serving members will probably lose most, given the size of pots accumulated and the length of time to retirement.

With 49% of GPP policies sold through IFAs ceasing premiums within three years**, few employees will be with their employer until retirement. And the experience of most providers indicates that policies tend to stay paid-up
for some time. So for many policyholders, it’s the paid-up
charge that will matter most.

But if the charge is clear to the client and, better still, the charge can be avoided, what’s the problem? Put simply,
the problem is in how the additional charge is avoided.

If the adviser periodically sweeps paid-up policies into
cheaper contracts, the only problem will be for the provider, as their revenue stream of (increased) charges
dries up. The strong suspicion must be that, if many
advisers did this, the Dual AMC model wouldn’t be around for long.

If the reliance is on members to act for themselves to avoid the additional charge, say by paying a nominal monthly premium, will the information be adequate for them to make that decision? Often, the party that stands to make most from the additional charge will be the one providing the information – the provider.

There are several other questions that really need to be
addressed:

  • What will the provider’s reaction be if an adviser does
    scoop paid-up policies into lower-charged contracts?
  • Is independent consumer testing required to ensure people understand the charging structure and can see the options available on becoming paid-up?
  • As GPPs are really a collection of individual PPs, does
    the industry see a place for Dual AMCs on Personal Pensions?
  • With mortgages, the APR allows consumers to see past the discount to the likely overall charge. Do Dual AMC contracts need an equivalent? Perhaps all illustrations should have a paid-up projection from year 3 to coincide with the median term-in-force?

    In an industry often criticised for lack of transparency, the danger of a “cheap today, expensive tomorrow” contract
    is obvious. If the list of questions can’t be answered
    satisfactorily then there must be a strong possibility that
    the Dual AMC approach will fail to solve the problems it
    seeks to address.

    * Assumes contributions increase by 4% each year and
    annual investment growth is 7%.

    ** 2007 FSA Survey of the Persistency of Life and Pensions

    Stuart Mainland,
    Corporate Pricing Manager
    Email: sgmainland@scottishlife.co.uk
    Website: www.scottishlife.co.uk >