The Financial Conduct Authority (FCA), in its Conduct of Business Sourcebook, required providers to alter the basis on which projected pension values are calculated. This was so that, from 6 April 2014, they would take future inflation into account.
The purpose of this change was to help investors understand the potential buying power of their pension. For example, in twenty years’ time, after allowing for inflation at 2.5% a year, £10,000 would only buy what £6,100 would buy today.
The FCA requires that projected values are discounted to take into account the reduction in buying power caused by inflation.
We are changing the way we present growth rates
There were two options available to providers to obtain these discounted values:
Option 1: Reduce the headline low/ middle/high rates of return of the selected investment portfolio by the assumed rate of inflation. For example, illustrations produced in 2014/15 assume inflation at 2.5% pa. For an equity portfolio, instead of using 2%/5%/8% per annum, the annual rates of return would be -0.5%/2.5%/ 5.5%
Option 2: Roll-up the projected values at the headline rates of return of the selected investment portfolio to the maturity date of the illustration. Those values will be discounted by the assumed rate of inflation each year for the projected term, to arrive at the inflation adjusted values (the same methodology used in Statutory Money Purchase Illustrations).
Both methods produce the same results but can appear to be based on different growth assumptions.
Old Mutual Wealth used the second option as the basis of producing illustrations from 6 April 2014. We have now had the chance to review how the pension market in general has implemented these changes. It is apparent that the majority of providers, regardless of method used, are presenting growth rates after deducting the assumed rate of inflation.
To help advisers in comparing the growth rates used where an Old Mutual Wealth pension contract is being considered, from 6 April 2015, we will also show growth rates after the deduction of the assumed rate of inflation. We have also added reminders against the projected values showing that these have been adjusted for inflation.
What you will see
Currently, we show the growth rates used in the projection in tables shown below:
|Before charges, the annual overall growth rates represented by the above projections would be:
From 6 April 2015, we will show the growth rates after the deduction of inflation. For example if the assumed rate of inflation is 2.50%pa, we will show the growth rates as below:
|Before charges, the annual overall growth rates represented by the above projections, adjusted for inflation, would be:
For further background on the inflation adjustments made to pensions illustrations please refer to the Q&A.