1% cap on early exit penalties will unshackle £10 billion of pension investments

FCA data shows 670,000 savers aged 55 or over hold over £22.5bn in old-style pension policies that levy a charge if they leave the contract before a pre-determined retirement date.  £10.6bn of this will incur an exit penalty of 1% or more and £6.2bn will have an exit penalty of 2% or above, meaning the 1% cap could make a significant difference.

Source: FCA

Previously the spectre of an exit penalty – which in some cases would wipe off more than 10% of the value of a person’s pot – may have been a barrier to switching to a more modern, lower cost pension plan.

However, for hundreds of thousands of investors the short-term pain of a 1% exit penalty will be worthwhile to benefit from lower annual charges in the longer-term.

Tom Selby, senior analyst at AJ Bell, says:

“Hundreds of thousands of savers chained to poor value pension contracts by huge exit fees could be unshackled from April this year. Anyone who has a policy with an exit fee should review it urgently because, in many cases, they will be able to get a much cheaper deal elsewhere.

“They will need to take care that they don’t give up any valuable benefits in their existing policy, such as a guaranteed annuity rate but now is definitely the time to dig out the policy documents and weigh up the pro and cons of a switch.

“While savers may be reluctant to absorb a 1% exit penalty in the short-term, even a relatively small reduction in annual charges could translate into a pension worth tens of thousands of pounds more in the longer-term.”

The table below shows how much more or less in investor would have if they switch pensions compared to staying where they are.  It is based on switching £100,000 from a pension with a current annual charge of 1.75%, 1.5% or 1.25% and an exit penalty of 1%, to a new pension with a lower annual charge of 1%. 

It assumes investment growth of 5% before charges are deducted and shows that the 1% exit penalty is quickly recouped by the additional positive return due to lower charges.