In the late 1990s, thousands of Canadian teachers were offered early retirement packages that included the option to take a lump-sum withdrawal and forfeit their vested right to a defined pension for life.
My mom was a teacher and she–and others–approached me to review the options. Cash-out values of several hundred thousand sound huge to people who had been making fairly modest salaries all of their lives, but it was very obvious that the capitalized value of the indexed pension (with a survivor benefit option) was much greater than the commuted lump sum being offered. I advised all of them that it was in their best interest to stay in the plan and collect the guaranteed income.
In 2007, I heard from police officers who were offered similar cash out options from their defined pension plans. In every case that I reviewed, I advised the person to stay in the plan.
Unfortunately, most others met with financial salespeople who counselled the retiring members to cash out and buy stocks and stock mutual funds (that generated fees for the ‘advisers’) and set up unsustainable withdrawal plans to fund their retirement.
As stock markets tanked in the bear markets that followed, those who bought the sales pitch lost heavily and were left cannibalizing what capital they had left to try and pay their bills. Most suffered permanent capital losses; many had to return to work.
Two of the police officers who took my advice in 2007 and stayed in their pension plan, told me later that they were the only ones in their precinct who had not cashed out and lost heavily in the 2008 collapse. It makes me ill to think about that. In reality though, bad outcomes are typical when lump sums meet with owner ignorance and investment sales reps. The latest cycle is producing a fresh crop of victims all over the world.
Case in point: the British Financial Conduct Authority sent letters to 7,700 former and current steelworkers this month, warning that those who have transferred out of the British Steel Pension Scheme since 2017 may have received unsuitable advice. Though lawsuits may follow, losses have already hit and pennies on the dollar are typically recouped. See Thousands of UK steelworkers told to seek possible pension compensation:
Although the FCA advises that most people are better off keeping a “defined benefit” pension rather than transferring the pot to a riskier pension arrangement, the BSPS members opted to transfer out of their scheme on the advice of authorised financial advisers. The average value of the transfers was £400,000.
…In its letter, the FCA said a review of a sample of files found only a fifth of the transfer advice provided to BSPS members “appeared to be suitable” for the client. It advised: “we encourage you to act; if you do nothing, you may end up with less money during your retirement than you should have done.”
…The action comes nearly three years after The Pensions Regulator allowed the giant BSPS to be spun off from Tata Steel, its struggling sponsoring employer. As part of the restructuring, 42,000 members of BSPS were given three months to decide whether to stay in the scheme, or take a lump sum and transfer their benefits to a riskier defined contribution plan.
…In 2017, a parliamentary select committee said the steelworkers had been “woefully” under-supported in making “complex” decisions about what to do with their pension. The work and pensions committee said many who transferred their pensions had been preyed upon by “unscrupulous” advisers and were “shamelessly bamboozled” into placing their cash in unsuitable, high-risk funds with punitive exit fees.”
Allowing non-fiduciary, self-interested salespeople and firms to counsel the masses on financial matters has an enormous social cost. Unfortunately, actions taken are typically reactionary, after the damage has been done, and it is too late to recover.
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