On 5 December, the Chancellor delivered his Autumn Statement which contained the following pensions-related announcements:
- The annual allowance (“AA”) will be reduced to £40,000 (with effect from 2014/2015).
- The lifetime allowance (“LTA”) will be reduced to £1.25m (with effect from 2014/2015). A fixed protection regime will apply, and HM Revenue & Customs ("HMRC”) will also discuss the possibility of a personalised protection regime with interested parties.
- The capped drawdown limit will be increased for all pensioners from 100% of the value of an equivalent annuity to 120%. The capped drawdown limit is the maximum amount which a pensioner using capped drawdown is entitled to take from their pension pot. The value of an “equivalent annuity” is determined using tables produced by the Government Actuary’s Department and published on HMRC’s website.
- In an effort to prevent defined benefit pensions regulation from inhibiting investment and growth, the Department for Work and Pensions (the “DWP”) will consult on introducing a new statutory objective for the Pensions Regulator (the “Regulator”) to consider the long-term affordability of recovery plans for sponsoring employers.
- The DWP will also consult on whether to allow smoothing of asset and liability values in valuations from 2013 onwards. This consultation has been announced in response to concerns about the “valuation date lottery” whereby schemes could end up having to base their valuations on widely differing market conditions depending on their valuation date.
The reduction in the AA had been widely anticipated, but has still received widespread criticism from the pensions industry. The change to the AA is limited to its amount – HMRC has confirmed that the carry forward and scheme pays rules will remain unchanged. The carry forward rules will still be based on the actual AA in the relevant tax year, so individuals will be able to carry forward up to £50,000 from the 2011/2012, 2012/2013 and 2013/2014 tax years, and up to £40,000 from the tax years from 2014/2015 onwards.
There may well be a number of indirect effects of the AA reduction. Not least, far more members are likely to be at risk of exceeding the reduced AA. With an AA of £40,000, an increase in scale pension of more than £2,500 above CPI could trigger an AA charge. Trustees may wish to consider reviewing their schemes for particular features which could cause members to exceed the reduced AA.
Where arrangements have been made, contractually or by rule amendment, to cap accrual to prevent the AA being exceeded, the terms of those arrangements will need to be reviewed. Trustees and employers will also need to consider whether those arrangements should be extended to other members, and what communications should be made about them.
The reduction may also expose more of the flaws and uncertainties in the current AA legislation, although HMRC is currently consulting on a draft order designed to resolve some of these issues. Above all, the reduction will lead to increased administrative costs for schemes as schemes will need to provide more members with information about the AA, both as of right and in response to member queries. Schemes may find themselves having to administer a larger number of “scheme pays” requests.
Whilst the reduction in the AA may have been expected, the reduction in the LTA was more of a surprise. The proposed new 2014 fixed protection regime will operate in the same way as the fixed protection regime for the reduction in the LTA from 6 April 2012. Individuals will be able to apply for fixed protection once the legislation comes into force (expected to be next summer) and will need to do so by 5 April 2014.
Based on the limited information published by HMRC, the “personalised protection regime” will give an individual an LTA of the greater of the value of their pension rights on 5 April 2014 (up to £1.5m) and the standard LTA. However, unlike fixed protection, the individual will be able to continue building up further pension savings without losing that protected LTA. Any savings above the individual’s LTA would be subject to a lifetime allowance charge when the individual takes their benefits. The personalised protection regime will only be available to individuals whose pensions savings exceed £1.25m on 5 April 2014. HMRC plans to consult on whether individuals should be able to apply for both fixed and personalised protection.
HMRC is also proposing that, where an individual dies before 6 April 2014 and a lump sum death benefit is paid after 6 April 2014, the lump sum will be tested against the LTA applicable at the time of the individual’s death.
CAPPED DRAWDOWN LIMIT
The increase in the capped drawdown limit follows calls for an increase to offset the impact of low gilt yields, which had significantly reduced the level of income that a pensioner could take using capped drawdown. The possibility therefore remains that the new 120% limit could be reduced again if gilt yields improve in future. No announcement has yet been made on when the increased limit will take effect.
NEW STATUTORY OBJECTIVE FOR REGULATOR
Employers will welcome the proposal to consult on giving the Regulator a new statutory objective of considering the long-term affordability of recovery plans. However, the Regulator’s annual funding statement (published in April this year) referred to the need to ensure that recovery plans are reasonably affordable for employers, raising the question of whether the introduction of a statutory objective to consider long-term affordability would actually change the Regulator’s approach. Even if such an objective is imposed, the Regulator’s view on what employers can reasonably afford may well not coincide with employers’ own views on the subject. We understand that the consultation will be published in early 2013.
DISCOUNT RATE SMOOTHING
A consultation on allowing discount rate smoothing in valuations will similarly be welcomed by employers and many trustees. (The CBI and the NAPF in particular have lobbied strenuously for such a consultation.) Schemes currently undergoing valuations, however, may feel unfairly treated if they are not allowed to smooth discount rates while schemes with valuations further into the future are allowed to do that. The Regulator has stated that, until any change is made following consultation, it will continue to operate in accordance with the current funding framework and guidance. Again, we understand that the consultation will be published in early 2013.