Borrowing against your pension fund could prove costly

Providers can levy large penalties on customers switching funds, says Paul Gosling

Clerical Medical's TV advert offering to lend money against a tax-free pension entitlement looked an attractive deal to Norman Greenslade of South Molton, north Devon, who had fallen on hard times after he was made redundant four years ago. But paying £3,800 just to have the right to borrow £2,000, not to mention repayment of the interest and capital of the loan, was too much to take.

Mr Greenslade's pension fund is with Clerical Medical, so he thought it would be easy to take advantage of the offer. But his pension is in a Section 32 fund - an occupational scheme. Regulations governing Section 32 funds are tight and prevent loans being issued against them as security. If Mr Greenslade wanted to obtain a loan he would have to transfer to a personal pension scheme, which has less restrictive conditions. But Clerical Medical, part of the giant HBOS group, told him that he would have to pay a huge £3,756 exit penalty - called a Market Value Reduction (MVR).

Mr Greenslade's independent financial adviser, Gerard O'Boyle of Anstey Financial Planning, is furious. He says: "Clerical Medical is not going to lose anything itself. Even though he is not transferring the money externally and will remain in the with-profit fund, it is levying a £3,800 MVR on a fund of just over £23,000. This is a travesty and morally unjustifiable, as we are simply changing the label on the investment and the money won't move from the with-profit fund." Mr Greenslade says: "It's a very high charge to take out some of my own money. I've been paying into pension schemes for 43 years."

Gordon McAra, head of public relations at Clerical Medical, defends his company's actions. "It may not be seen as particularly equitable but it's all about taking more out of the fund than is one's fair share," he says. "And when he invests it in a new product, that sets the clock back to the start as far as an MVR is concerned.

"Mr Greenslade is transferring from one product to another, although both are with-profit products," says Mr McAra. "To do this he needs to come out of the fund to effect the transfer. When he does this it triggers an MVR, which is there to ensure that any policyholder leaving the fund gets a fair amount. We apply this to all products set up before 1 January 2003 and it applies even if the policyholder re-invests in a new with-profits product.

"The reason for this is that there is no MVR applied to new policies, so if you think about it, if Mr Greenslade was allowed to transfer all his existing policy money MVR-free to a new policy and then surrender or transfer it, he would in effect receive more than his fair share of the with-profits fund. By applying an MVR when he leaves and then set up a new policy, which is MVR-free, Mr Greenslade's actual investment is then at an appropriate and fair level within the fund."

This explanation glosses over the issue that in order to take up Clerical Medical's own loan offer he would be losing £3,800 in his fund and end up in what may well be a less suitable scheme: occupational pension schemes are generally better than personal pensions, and are more likely to be attached to a performance guarantee.

Simon Creeber of Glaisyers Financial Services says that the MVR imposition may sound harsh, but he would expect most pension providers to do the same. "It is standard practice," says Mr Creeber. "Whether it is acceptable standard practice is another matter."

Other pension providers revealed that the approach to applying exit penalties is not universal. Legal & General said that it would adopt the same practice as Clerical Medical. Standard Life has abolished MVRs - but any person making a transfer would take with them the unsmoothed value of their investment. Scottish Widows, though, said that because its Section 32 with-profits fund was not unitised there would be no MVR or other loss or penalty involved in transferring to a personal pension fund, or otherwise making an early withdrawal.