When a scheme winds up, the trustees are obliged to select a Personal Retirement Bond (PRB) and a fund, which then become the default PRB and default fund for that scheme. Where members do not make their own decisions, or if members are not contactable, the transfer value of their pensions will be moved to the default PRB and default fund.
While trustee choices regarding the default PRB and the default fund may differ from scheme to scheme, the principles used in choosing a default PRB and a default fund may typically be as follows:
Suitability of the default fund for members of different ages. Typically the selection of the PRB and fund will involve use of a lifestyle fund
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Service standards of the PRB provider
Charges of the PRB Provider
The range of funds offered by the default PRB provider
Suitability of the default PRB for you
There may be good reasons for you to allow your transfer value to go into the default providers PRB and the selected default fund. These include the following:
A lifestyle fund will ensure that the level of risk taken by your pension is reduced as normal retirement age approaches
For larger schemes in particular, your trustees are likely to have negotiated competitive charges for the default PRB.
How a PRB works:
Your transfer value (i.e. the value paid from the scheme to reflect your entitlements) is transferred into the default PRB and, where you make no fund choice, into the default PRB fund
No new contributions can be made to the PRB
The PRB’s value will rise or fall depending on fund performance
At retirement you will be able to take your benefits from the PRB. Options may include a tax free lump sum, an income for life (annuity), a taxable lump sum and an Approved Retirement Fund (ARF)
Options for your PRB
After you have taken out a PRB you can:
Transfer to another PRB with a different life and pensions company
Transfer the value of your PRB into a new company pension plan
From the age of 50, you will be able to take early retirement benefits from your PRB. Note that the earlier you take your benefits, the lower your annual retirement income or lump sum benefits are likely to be.
Charges for a PRB
Usually no initial charge is imposed for transfer into a PRB. An annual management charge is likely to be applied by your PRB provider; this could typically be 0.75% or 1% per annum.
Benefits at retirement
At retirement, you will be eligible to take a Retirement Lump Sum from your PRB, based on your final salary and years of service under the original pension scheme. The balance may be used to purchase a guaranteed income for life (annuity) or subject to restrictions it may be transferable to an Approved Retirement Fund (ARF). In certain circumstances the balance after the Retirement Lump Sum can be taken as taxable cash.
Determinants of level of benefits at retirement
A number of factors will influence the level of benefits you may receive from your PRB at retirement. These include:
Your original transfer value into the PRB
The investment performance of your chosen fund or funds
The age at which you take your benefits
The level of annuity rates when you take your benefits
Investing your PRB
There are a variety of funds available within PRBs, including high risk, medium risk and low risk options. You can switch out of the default fund at any stage, and typically fund switches are free.
In general, the higher risk a fund, the more growth can be expected from it over the long term. However high risk funds are also volatile, and will experience many ups and downs over the course of investment. Low risk funds will be much less volatile, but will also probably deliver much lower long term growth. It is usually considered sensible to invest on a medium or high risk basis when you are a long way from retirement.
Growth is likely to be an important factor in delivering you a reasonable level of retirement benefits, and the length of time to retirement should mean that your fund will have time to recover from market falls.
Investment return expectations
If you invest in a low risk cash fund, returns are likely to be no higher than prevailing interest rates. If you invest in a high risk equity fund, it may be reasonable to expect returns of 3-5% ahead of inflation. In other words if inflation averages 2% per annum, then returns of 5-7% can reasonably be expected from a high risk equity fund.
However higher risk funds will experience years of both much better and much worse returns than this broad average would suggest. You may want to find out more about the principles behind saving and investing. These principles are, in general, similar within a pension fund as outside of one.
Annuity rates and their relevance
At retirement you can usually use your pension to buy an income for life, or annuity. Annuity rates are the rates at which life and pensions companies will provide annuities. The level of annuity, or the amount of income, that you receive will be determined by the following 3 factors:
The size of the pension fund that you have accumulated
The annuity rates at the time
Your age when you buy the annuity
Age at which benefits can be taken
Normally, you can take your retirement benefits from a PRB any time after the age of 50. There is no requirement to adhere to the normal retirement date of your previous pension scheme. It is possible to take early retirement before 50 in the event of serious illness. As a general rule, if you intend to buy an annuity, the older you are when you take your benefits, the higher the annuity you will be able to buy, as annuity rates are tiered by age.
Death before retirement
If you die before taking your benefits from your PRB, the value of the fund will be made available to provide benefits for your dependants. Often on death before retirement it is possible to pay out the full value of the PRB to your dependant’s, tax free. However there is an upper limit to the amount that can be taken tax free – any excess is likely to be used to buy an annuity for your dependants.
Tax on a PRB
In general, PRBs are able to grow tax free.
Mercer can help
Contact us for advice on whether the default PRB is the right option for you or to set up a meeting with one of our consultants.