Despite the dull name, Qualified Recognised Overseas Pension Schemes (QROPS) are a hot topic. For any expat who once worked in the UK and has a frozen or deferred pension, there are persuasive reasons to export it, especially if it is a defined-contribution scheme in which an investment pot belongs to you. Defined-benefit schemes, where a calculated pension will be paid, are often difficult to evaluate and many expats make the mistake of not scrutinising them properly.
We have already looked at the principles of QROPS, their historical development and some of the reasons why expats should consider transferring their UK private pensions. The compelling advantages of a transfer are:
- 30% initial lump sum available after five years offshore;
- pension payments made free of UK income tax;
- flexible pension payment calculations within QROPS rules;
- unlimited global investment choices;
- diversity of investment currencies enables better foreign-exchange control;
- schemes available all over the world;
- residual lump sum available to those chosen as heirs;
- residual lump sum free of UK inheritance tax and death tax.
There are also disadvantages to QROPS. These apply to defined-benefit schemes in which the pension payments are set rather than dependent on market forces, which may send the investment value fluctuating. However, if the UK scheme is in deficit or, worse still, already insolvent, there are further arguments to consider.
Alternative schemes are defined contribution, or money-purchase schemes, in which a pot is built up belonging to each individual member. If the sum is left in the UK when the member retires, there are some choices available. These are mainly to convert the pot to an annuity providing a fixed lifetime income; draw down on the scheme; or transfer to a Self Invested Pension Plan (SIPP). With UK gilt rates currently very low, annuity yields are very low as well. In fact, even at the best of times annuities tend to be disadvantageous (see Net Worth July 26, 2010, "The truth about annuities").
Therefore, in the vast majority of cases where the pension is a money-purchase scheme, it probably will be to your advantage to transfer it to a QROPS. Compared to a SIPP there are a number of advantages, which we will deal with in the next article.
If you have a defined-benefit scheme there are further considerations before making a decision.
First, you need to discuss the possibility with a professional adviser. He will be able to approach your UK scheme administrator to obtain a transfer value and the projected benefits when you retire. He will then calculate the growth required to equal the benefits if you leave the scheme in the UK. He will also assist you with broad tax advice on how benefits will be treated in the country where you transfer your scheme in relation to where you will likely retire. These factors can have a real impact on whether it is wise to transfer your scheme to a QROPS.
Remember that a defined-benefit scheme is based on your actual salary from your UK employer and the number of years you were employed. So, let's say that you were employed for 18 years in the UK and when you left your annual salary was 50,000. The most common calculation used is service years divided by 80 and then multiplied by your final salary. Thus the calculation of the pension benefit here would be 18/80 x 50,000 = 11,250. This annual pension is then index-linked into the future until you retire. Once you retire it will be further index-linked each year so your benefits will increment annually.
In evaluating whether a QROPS is right for you, these benefits must be compared to the growth you require your pension to achieve. But there are also further considerations to evaluate.
In the pre-2008 days, interest rates were higher than they are now, making calculations for pensions different. In calculating a defined benefit, a scheme must take account of the growth rates it needs to achieve in order to afford to pay benefits. These are benchmarked by the UK government gilt rate at the time of calculation. When gilt rates were, say, 5%, in order to create benefits totalling 11,250, a scheme would need 225,000 of capital. This would then have been the value available at that time to transfer to a QROPS. With gilt rates about 2.25% today, the same benefits will require a capital value of 450,000.
This gives rise to two considerations. First, the transfer value will be far higher at present than it was five or more years ago. Second, the UK scheme may be finding itself struggling with the added commitment of income-generation requirements. Remember, it is not the capital value but the benefits payable that are key here.
Given these facts, it may surprise you to know that some UK pension plans are in serious difficulties and have a calculated deficit of capital with which to match their benefit commitments in the future.
According to one report such companies as BT, RBS, BAE Systems, BP, Barclays and British Airways had deficits ranging from 2.07 billion to 7.86 billion as of Dec 31, 2012. Will your UK scheme survive long enough to pay your benefits?
The situation for some of these plans is dire. They need growth rates in excess of 10% a year just to meet existing liabilities. This does not account for the deficits they currently have. If you have a defined-benefit scheme with a blue-chip UK company and you feel safe, better think again. An adviser can get the information for you and evaluate whether you would be wise to risk staying in the scheme or move to a QROPS.
One UK company has already demonstrated that shedding the responsibility for its pension liabilities is very easy. Pickfords started by declaring itself insolvent and its pension plan was passed to the UK Pension Protection Fund. The company then began "trading as" Pickfords, so that outwardly there was no change. It had then successfully shed its responsibility for pension commitments and could move on with trading and making profits without having to fork out any pension commitments.
A total of 63 of the UK FTSE100 companies have reported significant deficits in their pension funding as of the end of 2012. Many have discontinued defined-benefit schemes for new members. However, they have current commitments to members who have already accrued benefits. Are you one of them? If so, you are in a position to do something about this now if you so choose.
Some expats think that they cannot transfer their UK private pension to a QROPS because they intend to return to the UK to retire. This is not so. Her Majesty's Revenue and Customs has issued information about such situations and how they can be dealt with.
Next time we will continue with comparisons of UK schemes against SIPPs and QROPS as well as the tax implications developing with the jurisdictions you might choose.
Andrew Wood has been an expat in Asia for 33 years and is executive director of PFS International. His articles are available through the PFS library on request. Questions to the author can be directed to PFS International on 02-653-1971 or by email to enquiriesthailand@fsplatinum.com