In this month’s edition of the Pensions E-Bulletin, we consider how members can protect pension savings over £1.5 million when the lifetime allowance reduces to this level from £1.8 million in April 2012. We also look at the change in the definition of “money purchase benefits” to address the implications of the Bridge Trustees case and the impact that the increase in the state pension age may have on schemes which provide bridging pensions.
The lifetime allowance, which is the maximum amount of tax privileged pension savings that a member can build up over his lifetime, will reduce from £1.8 million to £1.5 million with effect from 6 April 2012. Individuals who think their total pension savings may exceed £1.5 million and wish to protect this amount (up to a maximum of £1.8 million) can apply to HM Revenue & Customs for “fixed protection” by 6 April 2012. Without fixed protection, benefits in excess of the lifetime allowance will be subject to a 55% tax charge if taken as a lump sum or 25% if taken as pension income.
Anyone who has pension savings in a registered pension scheme and does not already have either primary or enhanced protection can apply for fixed protection. There is no requirement for a member to have already built up benefits in excess of £1.5 million to be able to apply. The question is whether the individual anticipates that his pension savings will exceed that level when he comes to take payment of his benefits. If this is the case, fixed protection may be appropriate.
If fixed protection is granted, the member will not be able to start a new pension arrangement, or build up any more pension benefits, and will be subject to restrictions on where and how he can transfer benefits. If any of these conditions are breached then the member will lose his fixed protection.
Although the deadline for a fixed protection application is 6 April 2012, members should ensure that they notify their scheme administrator (or employer) that they wish to stop active membership sufficiently in advance of that time to ensure that their benefit accrual and contributions under the scheme cease before 6 April 2012. Otherwise, the conditions of fixed protection will be breached and the member will not be able to rely on it for protection of a higher lifetime allowance.
Change in definition of “money purchase benefits”
In our August E-Bulletin, we reported on the Bridge Trustees case, which ruled that it was not necessary for a scheme’s assets to be the same as its liabilities in order to qualify as a money purchase scheme. The Government has reacted against this decision and it has just introduced a revised definition of “money purchase benefits” which will reverse the effect of the Bridge Trustees case. Under the new definition, which appears in the Pensions Act 2011 and will have retrospective effect to 1 January 1997, a benefit is “money purchase”:
- ”if its rate or amount is calculated solely by reference to assets which (because of the nature of the calculation) must necessarily suffice for the purposes of its provision to a member”; and
- in the case of a pension in payment, “if its provision to or in respect of the member is secured by an annuity contract or insurance policy made or taken out with an insurer”.
The new definition makes it clear that benefits cannot be regarded as money purchase where it is possible for a funding deficit to arise in respect of those benefits.
The revised definition is not yet in force and the Government intends to consult on regulations making consequential and transitional changes in the near future. This will give an opportunity for concerns to be raised about the impact of the new definition. However, unless radical exemptions are introduced by these regulations, there is likely to be a significant impact for schemes which are essentially money purchase but which have some kind of benefit underpin, investment guarantee or offer internal annuitisation. Such schemes will no longer qualify as money purchase and are likely to find themselves subject to all the pensions legislation originally designed for defined benefit schemes, such as that relating to scheme funding, the Pensions Protection Fund (including the requirement to pay a PPF levy) and section 75 employer debts. While this legislation offers important protection for members, the compliance aspects will be an unwelcome and costly new burden for many schemes.
Some schemes provide for an additional amount of pension (known as a “bridging pension”) to be paid to members whose pension comes into payment prior to state pension age, with the aim of ensuring that the total pension from the scheme and from the State remains reasonably constant throughout retirement. When the member reaches state pension age, pension benefits are reduced by the amount of the state pension received.
In order to qualify as an authorised “scheme pension” (and therefore avoid being subject to an unauthorised payments tax charge), a pension must not be capable of being reduced year on year. Certain exemptions to this requirement apply, including where the reduction applies to a bridging pension. However, this exemption only applies where the reduction takes place between age 60 and 65. With the planned increases in the state pension age beyond age 65, the continued payment of a bridging pension beyond age 65 would, under the legislation in its current form, result in the member’s pension being subject to an unauthorised payments tax charge.
The Department for Work and Pensions has confirmed that it is reviewing the upper age limit of 65 for the payment of bridging pensions. Hopefully, amending legislation will be introduced in good time to allow the continued payment of bridging pensions up to the revised state pension ages as and when these come into force.