In the context of the ‘corona chaos’ in the markets, it is hard to imagine willingly taking an additional hit on your retirement savings pot but, says Mackay, it is often worth paying a penalty upfront to move your savings.
Often individuals will discover that they are paying extortionate fees on their retirement annuity, but they are not very keen to move to a low-cost provider as they know they must pay a penalty to do so.
“These investors might understand the damage high fees are doing to their savings over the long-term, but they can’t bear the idea of an immediate hit, which can be as much as 30% of their total investment balance.”
There are two points to consider, says Mackay:
• Paying high fees, especially for less-than-fantastic returns, over the life of your investment often does more damage than a once-off hit. The bottom line is that you could end up with more money even if you surrender a big chunk to transfer to a low-cost provider.
• You will probably pay the value of the termination charge over the lifespan of your investment even if you don’t move your savings to where you want them to be.
"Termination charge" and "termination penalty" are phrases used by the life insurance industry to create the impression that clients are being punished for breaking a contractual agreement. The assumption is that this penalty could be avoided by staying put.
“Whether or not this is true (and it isn’t always), you should have the freedom to move your own funds if you are not happy with your current provider.” says Mackay, who is also the Group RA Manager at 10X.
The goal of the penalty is to deter you from switching. It is important to understand that it covers what are essentially "sunk costs" ie costs you have already incurred and will have to pay one way or another.
The "termination penalty" is usually the recovery of up-front costs incurred on your behalf. These costs relate to the sales commission and the company’s "new business" costs. These expenses are incurred up-front and posted as a liability (debt) against your retirement annuity. This liability grows initially as the life insurance company charges you interest on its loan, but then it reduces as fees are deducted from your investment.
In the past, there was no limit to the amount of the penalty and some investors forfeited their entire investment. The law now limits the recovery to up to 30% of the investment value, and life assurance retirement annuities sold from 1 January 2009 restrict the penalty to 15% of the investment value on transfer.
The critical point, says Mackay, is that these costs are usually recovered over time, irrespective of whether you remain where you are, or transfer to another provider. They are recovered either over the life of the policy, or as a "termination penalty" should you transfer your policy or make your retirement annuity paid-up (stop contributing to it).
Moving your savings to another provider is not a decision to be entered into lightly. Keeping costs down is only part of the formula for retirement savings success, investment returns, and the overall client experience are important too.
You will need to weigh up the costs and the benefits of transferring your funds. 10X Investments can help you do this by doing a free, no obligation fee analysis of your current fund and a cost comparison against a 10X policy.
Apply online for a free, no obligation cost comparison here.