Five personal finance questions from MoneyFit

Five personal finance questions from MoneyFitOn Monday and Wednesday lunchtime this week, I took part in the MoneyFit Week campaign.

MoneyFit is a week devoted to getting your money in shape for the year.

It’s hosted by Unbiased.co.uk, the UK’s biggest professional adviser search website, in partnership with MetLife.

Every day this week, a panel of expert advisers have been answering consumer personal finance questions during a live online Q&A session.

I love doing these Q&A sessions because the questions we get are really interesting and coming up with good answers really keeps you on your toes.

Here are five of my favourite questions from all those I answered during my two MoneyFit Week Q&A sessions, along with my answers.

I retired in 1992 with a company pension. Unfortunately the company went in to administration and the pension was subsequently taken over by the Pension Protection Fund. My pension income hasn’t increased since then. Can I exchange my pension income for a cash payment and what would it be worth?

The Pension Protection Fund was established to pay compensation to members of eligible defined benefit, or final salary, pension schemes where the sponsoring employer becomes insolvent.

Usually when you have a defined benefit or final salary pension, the pension income you receive each year grows to keep pace with price inflation. However, under the terms of the Pension Protection Fund, pension benefits earned before 5th April 1997 do not increase in course of payment.

Regarding the question about exchanging the pension income for cash; there’s no provision under the new pension freedom rules to convert a pension in payment to cash, although there are proposals to allow this to happen for annuity payments from 6th April 2016 onwards. However, I feel it is very unlikely this will be extended to final salary pensions in payment.

Do you think it’s worth keeping hold of a With Profits fund with a non guaranteed bonus?

A with profits fund is a type of investment fund which shares in the profits of a life assurance company. They were originally designed as a way of sharing unplanned surpluses from life assurance companies, including when lower than anticipated death rates meant the companies had some money left over.

Personally, I’ve never been much of a fan of with profits as an investment concept, as you rely on the discretion of actuaries to allocate profits from the fund each year to ‘smooth’ investment returns. You are also at the mercy of the product provider for whether they impose a market value reduction when you want to leave the fund.

If you’re comfortable managing your own investments, with or without advice, and you can leave the with profits fund without losing guaranteed bonuses or having a market value reduction imposed, then you could be better off moving to a portfolio of funds where you control the level of investment risk you are taking in order to meet your personal investment goals.

Should the cash component of my group pension plan be free of charges? How are pension fund charges worked out and how do I work out the actual profit on funds I have invested in, as my annual statement not transparent or easy to understand?

Within a group personal pension, it is likely the cash component is a money market fund, rather than a cash deposit account. This means it invests in cash like instruments rather than cash itself, so yes, an annual management charge does usually apply.

In the current economic environment, this can mean a negative return, as the return from cash instruments less the annual management charge will result in a yield of less than zero.

Each fund in which you invest should have an explicit annual management charge attached, and the pension provider will be able to show you the charges for each fund. Look for the Ongoing Charges figure, rather than the Annual Management Charge or AMC, as this will give you a more accurate reflection of all of the charges involved. The investment return you see on your annual statement will be net of charges deducted.

In terms of typical investment risk, what is the order from low to high of the different types of investment you can make? Are there any general guidelines on what balanced portfolios look like for low to medium risk?

Investment risk is pretty subjective, so what is ‘low risk’ for one investor might be viewed as higher risk for another.

Traditionally, the low to high investment risk spectrum went something like cash, gilts, corporate bonds, commercial property, UK equities and international equities. The trouble is, we’re living in a pretty unusual time from an economic and monetary policy perspective, so our view of risk is quite different today.

We build investment models for different risk levels, as measured by volatility, based on capital market assumptions for each investment asset type. It’s important to consider how investment assets are correlated (behave together) when thinking about the risk level of a specific portfolio.

To offer an example of where we currently consider a ‘low medium risk portfolio to be, it’s 10% cash, 56% fixed interest securities, 16% UK equities, 10% international equities and 8% UK commercial property. This is a portfolio at number 3 on a scale of 1 to 10.

Our ‘high medium risk’ portfolio, at 7 on the same scale, consists of 13% fixed interest securities, 34% UK equities, 48% international equities and 5% UK commercial property.

Of course what really counts is how much risk you need to take with your wealth, which is determined by reference to your Financial Plan, and also your capacity for accepting investment risk, which might limit your risk tolerance depending on the impact of losses.

I currently have a cash ISA but am unhappy with the interest rate. How much better can my money do in a stocks and shares ISA? What are the risks involved with this type of ISA compared to a cash ISA?

Lots of people have considered moving from cash to investments in search of a better return on their money, since interest rates fell to their current record low levels. If you decide to do this, you will be exposing your ISA to capital risk, as the value of your ISA could go down as well as up.

You should expect to receive a ‘risk premium’ on the money you invest, depending on how much investment risk you are prepared to take. But the more risk you take, the more volatile (movement in value up and down) you should be prepared to experience as well.

I don’t have a crystal ball so will not hazard a guess at how much you might expect to receive each year by investing the money, rather than keeping it in cash. What has happened in the past is definitely not guaranteed to happen again in the future. That said, history tells us that investments tend to outperform cash over the longer term.

It all depends on whether you are prepared to take the risk with your ISA money, whether you need to take the risk to reach your financial goals, and whether you can afford to take the risk should markets fall in value.

Look out for MoneyFit from Unbiased.co.uk again next April, and check out the hashtag #MoneyFit on Twitter to see more questions and answers.

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About Martin Bamford

Martin Bamford is a Chartered Financial Planner, Certified Financial Planner (CFP) professional and published personal finance author. He works with elderly clients to provide advice on funding residential care fees, hosts the Informed Choice Podcast and is a keen ultra runner.
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