Beware of this Government Ponzi scheme

Mar 20 2009 Personal Finance by Trevor Law, Birmingham Post

If it was not so serious, the daily breaking news from the financial world would make a top-rated soap series, which would have us all glued to our television sets.

You could not write a better script or make up a more imaginative story than some of the things that are being discovered as investigators dig into the financial affairs of some of the world’s biggest financial institutions.

It was truly breathtaking to read the story surrounding the supposed fraudulent activities of Bernard Madoff.

I think this episode has perhaps had less media coverage than other recent issues because the losers all appear to have been wealthy individuals drawn into a super exclusive club where there has appeared to have been some sort of kudos for being allowed to join. Talk about “pride before a fall”! 

It is incredible to think that £50 billion could be at risk, and it is even more astounding that there appears to be very little by way of assets available to be recovered. 

It is perhaps excusable for the wealthy individuals themselves to have been hoodwinked, albeit they may have been seduced by the kudos they achieved by being a member of the club.

One wonders how on earth a number of “wealth advisory firms” such as Bramden (superwoman Nicola Horlick’s company), UBS and Barclays Wealth were duped into recommending these funds to their clients.

Whilst they all claim to have completed a rigorous due diligence, their definition of rigorous would be interesting to learn.  It transpires that Madoff’s auditors were a two-man band operating above a shop. 

So we have the biggest Ponzi scheme to come out of the woodwork since Mr Charles Ponzi himself launched his scheme on Boxing Day 1919 promising returns of 50 per cent in forty-five days. 

As I recalled recently, the term Ponzi scheme was derived from this gentleman who used new investors money to pay off existing investors returns, whose scheme lasted seven months before it imploded. 

Bernard Madoff had apparently been at it for decades, hence the amount involved, and of course the current financial meltdown caused the whole pack of cards to fall.

If that was not bad enough, along comes Sir Allen Stanford, who it appears has also been offering a form of Ponzi scheme in which there may be up to £8 billion dollars involved. 

This particular gentleman had his worldwide organisation’s accounts signed off by a 73-year-old, also working from an office above a shop, but this time in the UK.

He recently died and his daughter has taken over his affairs. Who did the due diligence on that then?

And finally, when I think about how these guys managed to get away with these frauds for so long, it strikes me that it is no different from a giant Ponzi Scheme being run by our Government, which will effect all of us.

It is called National Insurance and the state pension scheme. 

Our NI payments may provide essential funding for the National Health Service. But the way NI provides the money for pensions offers worrying parallels with a Ponzi scheme.

Just think of the similarities. Money is handed over today with the promise of a future return.

The money is not invested in a fund or even put in a bank account, and so earns no interest.

Today’s investors (like me) are paying out the benefits to investors who are cashing in (current pensioners).

When the state pension scheme was devised there were five taxpayers to every one pensioner, so the costs at that time were manageable.

Given recent demographics, and the likelihood of this trend continuing, this whole arrangement could also end in tears.

It is reckoned that there are now two taxpayers contributing to every pensioner’s benefits and with unemployment set to soar and pensioners living longer and longer, this equation is clearly going to be stretched to the limit.

When you add in the fact that this government is borrowing hundreds of billions of pounds to sort out the banking crisis and other financial issues, it is unlikely that there are going to be funds available to subsidise any future state pension shortfall. 

Wasn’t this what happened to Equitable Life, high guaranteed annuity rates promised on contracts that could not be delivered when things went awry? 

Is this not the same for final salary pension schemes where guaranteed pensions cannot be honoured due to a shortfall in pension scheme assets? 

You may say that there is nothing that we can do about the state pension scheme and for the basic state pension there isn’t.

However, with regards to the Second State Pension (previously Serps), there is an option for employees to contract out and instead of having additional contributions paid into the Second State Scheme, have rebates invested in their own personal pension.

Now this is a real hot potato with insurance company regulators in terms of best advice.

How do you know that your personal pension will provide a better return than the “promised” pension from the Government?

The answer is you don’t, but my own personal philosophy has been I’d rather see the rebate paid into my own account each year and invested, even if the investment return is low.

At least I have a fund and I know that I will get a pension from it, rather than relying on a future promise which may or may not be delivered.

So, if you are still working and have a chance to decide whether to remain in or out of the second state pension, give it some serious thought before April 5 while you can still elect to opt out for the current year and avoid the possibility of being involved in Gordon Brown’s Ponzi scheme.

* Trevor Law is a director with Montpelier Group (Europe) Ltd, the privately-owned independent financial advisers located at Barston near Solihull. e- mail: TILaw@montpeliergroup.com