Guest Spot: What the FCA’s DBAAT means for suitability of advice

  • Author : Just
  • Date : 17 Feb 2021

In this Guest Spot Just cover what the FCA’s DBAAT means for suitability of advice.

On January 15, the FCA put their defined benefit advice assessment tool (DBAAT) out into the public domain. Up until this date, the weighty Excel spreadsheet had been used behind the scenes by the FCA to help them assess the suitability of defined benefit (DB) transfer advice as part of their file review activities. It was made widely available to help a range of interested parties – including advice firms, compliance consultants, auditors and insurers – gain a better understanding of how the FCA assess the suitability of a DB transfer when carrying out a file review.

Published alongside the tool itself was an equally weighty instruction document running to 104 pages. Within the document are some interesting clarifications on how thorny issues like risk capacity should be handled for a DB to defined contribution transfer. It also contains potential hints as to what wider retirement income advice requirements might emerge from the delayed Assessing Suitability Review II investigation.

Example 1 [Sec 2.19 – 2.24 in the guide which helps users complete section 6 on the front ‘Information’ tab of the tool], gives us a pretty clear indication of what the FCA expects in terms of assessing a client’s risk capacity when it comes to suitability, and evidencing that a client was or was not reliant on the income from the scheme to cover their ‘non-discretionary’ expenditure in retirement. Sec 2.22 states:

“The client is reliant on income from the DB scheme in retirement if they do not have the capacity to lose it – for example because without it they would be unable to meet non-discretionary expenditure”.

Maybe to the surprise of some, yet arguably consistent with the original definition of capacity for loss held within FG11/05[1], Section 6 within the ‘Information’ tab of the DBAAT makes it clear that lifestyle expenditure – things such as eating out, weekends away, holidays and club memberships – should be assessed together with expenditure on basic needs, and the combined amount treated as non-discretionary expenditure.

This may surprise some. Although the concept that not every pound of income in retirement has the same importance is now widely accepted, giving rise to a hierarchy of spending approach. Many may have limited their attention to just essential or basic needs expenditure when it comes to assessing risk capacity.

The next interesting part of this clarification is what the FCA expects an advice firm to do from a suitability perspective, to evidence that a client was not/is not reliant on income from the DB scheme. This is the first of twelve examples (or indicators) of suitability that the DBAAT assesses. The client will be seen to not be reliant on the income from their scheme [effectively making the transfer potentially suitable in the context of just this first one of the twelve examples in the guide] if:

  1. suitable alternative sources of guaranteed income exist to meet their non-discretionary spending requirements; or
  2. if they can produce the same level of income via a suitable alternative, with or without a guarantee, and this income is able to meet their needs throughout retirement.

For option (b) to apply, Sec 2.22 mentions the need for a cashflow plan, and a sustainable withdrawal rate (SWR), stress tested to beyond life expectancy. This suggests the expectation is that the cashflow plan should be modelled on a stochastic basis not deterministic, as the latter does not deliver a sustainable withdrawal rate. This is because one fundamental part of a robust SWR is the level of probability (success or failure) used to determine that withdrawal rate. The higher the success probability the more likely it is that the outcome will be achieved or exceeded, although ultimately not guaranteed. To establish a level of probability requires stress testing a retirement plan in a wide range of market conditions, not just a few based on an assumed average annual return with a couple of manufactured market corrections thrown in to ‘stress test’ the outcome.

It is often said that consumers do not understand statistics or the output from stochastic calculations, so the direction of travel the DBAAT process has signposted could potentially present many advice businesses with a challenge if it does turn out to be a sign of future suitability and advice standards in the wider retirement income advice area.

You can gain further knowledge and insight of key retirement advice principles by dipping into Just’s New ERA webinar series which is available on demand. Or, alternatively see how Secure Lifetime Income, available within the Novia platform SIPP, can offer you and your clients valuable features that might surprise you, by clicking the Guaranteed Income button below.

[1] Footnote 3, page 3: “If any loss of capital would have a materially detrimental effect on their standard of living, this should be taken into account in assessing the risk that they are able to take”.

The statements and opinions expressed in the Guest Spot are those of the author and do not necessarily reflect those of Novia Financial plc or any of its employees. The company does not take any responsibility for the views of the author. Any links, web pages and documentation within the Guest Spot are provided by pages maintained by independent third parties and Novia accepts no responsibility for the availability, content or use of the information contained within them.

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