Top of the agenda
1. Taxation of Pensions Act 2014 enacted
The Taxation of Pensions Bill received Royal Assent on 17 December 2014 and became the Taxation of Pensions Act 2014. The Act contains legislation in relation to the flexibility measures that are available from 6 April 2015 in relation to money purchase benefits and, in some circumstances, defined benefits.
Below is a list of the key provisions of the Act.
Uncrystallised Funds Pensions Lump Sum
- From 6 April 2015, a new lump sum, the Uncrystallised Funds Pensions Lump Sum (“UFPLS”) will come into play allowing pension scheme members to take their entire DC pot from a registered pension scheme 25% of which will be tax free and the remainder taxable at the individual’s marginal rate of income tax. The member must have reached normal minimum pension age (currently 55), or satisfy the ill health condition, to take a UFPLS. There is no limit on how much can be taken as a UFPLS but the amount taken is tested against the member’s lifetime allowance.
- A new income drawdown facility, “Flexi-access drawdown” will also be available from 6 April 2015. Unlike the current drawdown regime, there will be no minimum income limit and no limit on how much can be drawn. There will be two key elements to the facility:
- withdrawal – individuals will be able to take as much as they like, how they like once they reach normal minimum pension age;
- a short term annuity – some or all of funds drawn down can be used to buy an annuity to provide income for up to five years.
- Individuals who are in a capped drawdown arrangement before 6 April 2015 can convert to the new flexi-access drawdown facility. Those in a flexible drawdown arrangement will automatically be converted to the new flexi-access drawdown as flexible drawdown will be abolished. Individuals opting for drawdown will still be able to take a Pension Commencement Lump Sum.
New money purchase annual allowance rules
- A reduced money purchase annual allowance of £10k will be introduced to discourage people from exploiting the new DC flexibility rules by diverting their income into a DC pension arrangement and obtaining tax relief at the marginal rate on the contributions, then withdrawing 25% as a tax free lump sum each year. The reduced allowance will apply if an individual takes their benefits ‘flexibly' and then makes further DC savings.
- In these circumstances, if a member or the employer makes further DC contributions, these will be subject to a reduced annual allowance of £10,000 (as opposed to the normal £40,000 annual allowance). The member's DB savings are then subject to an adjusted annual allowance of £30,000, the member’s DB and DC savings then being tested against these respective allowances.
- Information requirements will be introduced so that members and scheme administrators are aware that the member has taken their benefits flexibly and that the money purchase allowance may now apply to the member. For our update on these information requirements, click here.
Changes to trivial commutation lump sums
- From 6 April 2015, Trivial Commutation Lump Sums will be redundant from DC arrangements and will only be payable from DB (although a member’s DC benefits will still count towards the trivial commutation lump sum limit of £30,000).
- The Trivial Commutation Lump Sum Death Benefit limit will be increased from £18,000 to £30,000 (bringing it into line with the limit for Trivial Commutation Lump Sums) for deaths on or after 17 December 2014. The lump sum in this case may also be paid in respect of any entitlement to guaranteed payments under an annuity.
- Trivial benefits and small pots will be payable from age 55 (rather than as currently, age 60), bringing this into line with the minimum age for payment of other benefits.
More flexible (DC) lifetime annuities and short term annuities
Changes will be made lifting some of the current restrictions on DC lifetime annuities and short-term annuities. These include:
- Allowing payments under such annuities to decrease;
- Guarantee periods under the annuities to exceed 10 years
These change do not affect annuities in place on 5 April 2015.
Taxation of death benefits
The 55% tax charge that applies on payment of most lump sum death benefits will be "abolished". Instead, from April 2015:
- Anyone who dies below age 75 can leave their unused DC funds to their beneficiaries tax free whether the funds are uncrystallised or held in a drawdown account.
- Anyone who dies on or after age 75 can pass on their DC funds to a nominated beneficiary to be accessed flexibly, subject to tax at the beneficiary's marginal rate of income tax on any withdrawals. Alternatively the DC funds can be paid as a lump sum, in which case a 45% tax charge would apply. The Government, has, however, said it will consult with the pensions industry as to whether the 45% charge should be reduced to the individual’s marginal rate from 2016/17.
The following DC and DB lump sum death benefits will be taxed as above (as highlighted in a briefing note issued by the HM Treasury on 29 September 2014):
- A flexi-drawdown fund lump sum death benefit;
- Pension protection lump sum death benefit;
- Annuity protection lump sum death benefit;
- Draw down pension fund lump sum death benefit;
- Defined benefits lump sum death benefit;
- Uncrystallised funds lump sum death benefit
Payment of unused funds in a drawdown account to nominees and successors
Currently pension death benefits can be paid only to dependants.
From 6 April 2015, any person (who is not a dependent) nominated by the member, or in the absence of such nomination by the member, a person nominated by the scheme administrator, can inherit any used funds in a drawdown account on the member's death. These funds will be taxed in a similar way to funds drawdown by the member. The nominee, in turn, can nominate a person (the legislation calls such a person a "successor") to whom any unused funds in a drawdown account may be passed on; any funds drawn down by the successor will be subject to tax in a similar way as for the scheme member.
Where individuals who are members of overseas pension schemes get UK pensions tax relief, similar limitations to the tax relief available and the benefits that can be provided apply to the overseas schemes as those for UK registered pension schemes in relation to those savings. The idea behind these rules is that members of a relieved non-UK Pension Scheme (RNUK) are in broadly the same position as members of UK registered pension schemes in respect of their UK tax-relieved savings in the overseas scheme.
To maintain this comparability in light of the new flexibility measures, changes have been made to the legislation to ensure (among other things) that:
- a payment from an overseas scheme that would be a UFPLS if paid from a registered pension scheme would be taxed in the same way as a UFPLS;
- flexibly accessing pension rights under an RNUK will trigger the money purchase annual allowance rules.
Trustee override to pay flexible benefits
It will be up to schemes to decide whether or not to offer these new facilities; they are not mandatory (although rules such as the new money purchase annual allowance are overriding).
A ‘permissive’ statutory override is available allowing scheme trustees to make a payment of certain flexible benefits, such as the UFPLS or a payment under Flexi –access drawdown "despite any provision of the rules of the scheme (however framed) prohibiting the making of the payment". This will enable schemes to pay flexible benefits without having to go through a possibly more complex exercise of formally amending the scheme rules.
The Pension Schemes Bill 2014/15 contains ancillary provisions in relation to the flexibility measures in the Taxation of Pensions Act 2014 and has yet to be enacted. For further information on the implications of the Act and the Bill for your scheme, please contact a member of the pensions team.
2. Incentives Code may apply to trivial commutation exercises
The Incentive Exercises Monitoring Board has updated the Q&As on its website to reflect the extent to which the Code of Practice on Pension Incentive Exercises applies to trivial commutation exercises.
The Code of Practice sets out guidelines which employers and trustees are expected to comply with when conducting an incentive exercise, such as transferring members' benefits out of the scheme or changing the benefits. The Q&As state that one-off small/trivial pension exercises to existing pensioners and dependants will be covered by the Code. However, such exercises will not be covered by the Code if they fall within "business as usual" activity. It is not expected that the Code would apply where members are not given a choice in any such trivial commutation exercises (although the principles of the Code may still be helpful in such circumstances). The Q&As also recognise that it is trustees who could be running such exercises, rather than the employer, but note that this would make no difference to whether and how the Code applies.
The Budget 2014 increased the limit for trivial commutation lump sums from £18,000 to £30,000 and for small pots from £2,000 to £10,000 – these limits are now enshrined in the Finance Act 2014. A number of schemes are considering enabling a pension in payment, where the member's benefit exceeded the old trivial commutation limit at the time it came into payment but is now within the new trivial limit of £30k, to be paid as a trivial commutation lump sum instead of a pension. Trustees who are conducting such exercises should consider whether the Incentives Code applies and comply with its guidelines.
The working Group has also stated that it recognises that the Budget 2014 measures are likely to have a significant impact on incentive exercises. It is therefore planning a major review of the Code in 2015.
3. High Court grants rectification of a deed on grounds of mistake
The High Court has allowed a clause in a deed of appointment to be set aside on grounds of mistake – the mistake related to the inclusion of certain assets, which did not qualify for relief from Capital Gains tax (CGT), resulting in unexpected CGT liability.
The decision is notable for the liberal approach taken to unwinding mistakes made as to the tax consequences of trustees’ actions. In Pitt v Holt , Lord Walker had stated that “in some cases of artificial tax avoidance the court might think it right to refuse relief, either on the ground that such claimants, acting on supposedly expert advice, must be taken to have accepted the risk that the scheme would prove ineffective, or on the ground that discretionary relief should be refused on grounds of public policy”. The Court acknowledged Lord Walker’s comments in this case, but distinguished the current arrangement as not being an “artificial tax avoidance arrangement” but “a perfectly legitimate way of conferring benefits on various beneficiaries in a tax efficient manner".
For our full update on the decision, click here.
4. High court rules that employer debts may be assigned
In Trustee of the Singer & Friedlander Ltd Pension and Assurance Scheme v Corbett  EWHC 3038 (Ch) the High Court has ruled that debts incurred under s.75 of the Pensions Act 1995 ("employer debts") may be assigned by reasonable and properly advised trustees in the exercise of their powers.
This is another ruling concerning the Icelandic Bank, Kaupthing, Singer and Friedlander ("KSF") and its pension scheme, the Singer & Friendlander Limited Pension & Assurance Scheme. A previous dispute concerned when an employer debt arising on an employer's insolvency should be calculated. Our briefing on that decision may be found here.
The current case involved a Part 8 application by the trustees of the Singer & Friendlander Pension Scheme. KSF, the Scheme's sponsoring employer, had gone into administration on 8 October 2012. During the administration, some of KSF’s s.75 debt to the scheme of £73.94m had been paid off in dividend payments totalling £60.26m.
The trustees wished to wind up the scheme, but could not do so in case further dividends were paid and the administration process closed. This was expected to happen in 2017. The other option for the trustees was to assign the s.75 debt and wind-up the scheme, so avoiding the administration costs that would otherwise be incurred and the uncertainty of relying on the administrator's estimates.
Birss J found that in principle, a s.75 debt was assignable. Most debts were, by their nature, assignable, and there was no express prohibition against assignment in the legislation. In addition, the case of Bradstock Group Pensions Scheme Trustee Ltd v Bradstock Group Plc and Others  ICR 1427 had already established that s.75 debts were capable of being compromised. An assignment was of “lesser significance” than a compromise. In both a compromise and assignment, the trustee would have to accept less than the nominal value of the debt, but in a compromise the employer also discharged its ongoing liability for the s.75 debt.
The public policy reasons for permitting an assignment were as great (in this case) as they had been in Bradstock; the evidence of the trustees was that, in this case, being able to assign the debt would allow them to secure the largest amount possible to make up the shortfall sum calculated under s.75 (in this case, there was a buyer willing to pay approximately 90p in the £ for the debt). As a result, allowing the transaction would further the purposes of the s.75 legislation as a whole.
Moral hazard powers
Birss J also considered whether permitting a s.75 debt to be assigned was compatible with the Pensions Regulator's moral hazard powers under the Pensions Act 2004 (the "2004 Act") to impose a Contribution Notice or a Financial Support Direction.
Under the 2004 Act, the Pensions Regulator could issue a direction to trustees not to take steps to recover a s.75 debt pending recovery of what was due under a contribution notice. Allowing the assignment of a s.75 debt created the possibility of double recovery by the scheme and unnecessary loss to other creditors if a contribution notice was issued against a third party, as the assignee of the debt would not be susceptible to a similar direction from the Pensions Regulator.
Relying on David Richards J's findings in J in Storm Funding Limited (in administration)  Bus LR 454, Birss J concluded that the moral hazard powers constituted an “entirely distinct scheme”. In that case, David Richards J had held that the s.75 debt and powers under the 2004 Act were different in nature; one imposed an ascertainable debt in certain specified circumstances, whereas the other involved obligations imposed in the exercise of discretionary powers by a statutory body.
Birss J found that the interaction between s.75 and the moral hazard provisions was bound to result in anomalies (and in particular the possibility of double recovery), regardless of whether the s.75 debt was assignable. Birss J stated that this was because "the FSD and contribution notices may be issued after the insolvent estate of the employer has already paid a dividend towards the scheme in respect of the s75 debt. The sums paid by way of dividend are not recoverable from any recipient of a subsequent contribution notice and the pension fund is under no obligation to repay the sums it has received by way of dividend".
The judgment enables trustees to assign s.75 debts (providing they are acting in the member's best interests and have taken advice) and to wind up the scheme quickly, rather than to wait until the employer's administration has been completed.
5. Canadian Court upholds Nortel pension trustees’ claims under a funding guarantee against Canadian parent company
The Canadian Superior Court of Justice has upheld the claims of the trustees of the Nortel Pension Scheme for £339.75 million against the Canadian parent of the sponsoring employer of the scheme under a funding guarantee given by the Canadian parent.
In 2009, Nortel companies in the US, Canada and Europe entered into administration and liquidation proceedings. Since then there has been a considerable amount of litigation on the pensions side. In 2013, the Supreme Court ruled that a Financial Support Direction (“FSD”) or Contribution Notice issued against a company after it has gone into administration or liquidation will not have priority ranking and will instead rank as a provable debt. For the firm’s briefing on the Supreme Court decision, click here.
The current case concerns a number of claims by the trustee of the Nortel UK Pension Plan and the Board of the Pension Protection Fund (“PPF”) under the Canadian insolvency regime against Canadian companies, Nortel Networks Corporation (“NNC”) and Nortel Networks Limited (“NNL”) – these companies are the parent companies of a number of companies worldwide in the Nortel group. NNC and NNL contended that there were no bases for any of these claims.
One key aspect of the trustee’s claim was the liability of NNL under a guarantee given by NNL in relation to the obligations of Nortel Networks UK Plan Limited (“NNUK”), the employer to the scheme, under the Scheme’s deficit recovery plan. Under the guarantee, NNL agreed to meet NNUK’s obligations under the recovery plan in the case of an “insolvency event” (as defined in the guarantee). NNL argued that there had not been an insolvency event as defined; the trustees contended there had. The Judge concluded that NNUK’s administration in 2009 was an insolvency event and therefore a “trigger event”, rendering NNL liable under the funding guarantee. Agreeing with the Monitor’s – an independent third party appointed by the Court to monitor a company’s ongoing operations – calculations, under the Funding Guarantee NNL’s liability to the Trustee amounted to £339.75 million. The Court chose from five deficit valuations: the previous scheme actuary valued the deficit at £479 million, £545 million, and £619 million; the trustee valued it at £491.75 million; and the Monitor calculated it at £39.75 million. The Court held that the Monitor’s calculations were more reliable and were consistent with Mercer’s conclusion, the actuary firm retained to advise NNUK on this issue.
The Canadian Court also made some interesting comments on FSDs and the reasonableness requirements that have to be satisfied when an FSD is issued.
6. Our recent briefing on the governance and administration of defined contribution schemes
Occupational defined contribution (“DC”) schemes have seen a raft of legal and regulatory changes recently. In November 2013, the Pensions Regulator issued its Code of Practice on governance and administration of trust based DC schemes. This was followed in March 2014 by the announcement of the DC flexibility measures in the Budget 2014. More recently, the DWP issued, for consultation, draft legislation in relation to the imposition of a cap on charges on default funds in auto-enrolment schemes and bans on certain charges being passed on to members – these measures are expected to be in force from April 2015, with the legislation being finalised in early 2015 (for our update on these proposed changes, click here).
In this first in a series of briefings focusing on DC Schemes, we look at the Pensions Regulator’s Code of Practice and guidance on governance and administration of DC schemes and what pension scheme trustees must do to ensure compliance, particularly in light of any DC flexibility measures they are planning to make available to scheme members.
Click here to read the full briefing.