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Main changes to pension rules from April 2016

There were some changes to pension rules that were already known about in advance of the March 2016 budget. With no further changes announced, here is a reminder of the main changes affecting registered pension schemes, and scheme members that are now operating from the start of the current tax year.

A reduction in the standard lifetime allowance (SLA) from £1,250,000 to £1,000,000

If a member of a registered pension scheme (RPS), without any transitional protection, had crystallised £1,000,000 in 2015/16, they would have used up 80% of their SLA. By contrast, if they crystallised the same amount in the current tax year they would fully use up their SLA.

The SLA of £1m is currently scheduled to begin to rise in line with any annual increase in the consumer prices index (CPI) from 6 April 2018.

Two new forms of lifetime allowance protections (fixed protection 2016 and individual protection 2016) are now available for clients to register to provide a higher personal Lifetime Allowance

Any individual can now apply for either, or both, of the two new protections.

From July 2016, HM Revenue & Customs (HMRC) will make an online application system available.

Between now and when the on line application system becomes available there is an interim application process available.

Primarily this will only be needed for those wishing to crystallise benefits from the start of the tax year and the date that the online application process becomes available that will exceed the current standard Lifetime Allowance of £1m.

Clients wishing to do so will need to write to Pension Schemes Services in Nottingham, with proscribed information and declarations to obtain a temporary reference number. They will then be required to subsequently register online to obtain a permanent reference number, which must be supplied to the provider.

Failure to do so by 31st July could result in the levy of a Lifetime Allowance tax charge on the member on any crystallised value in excess of the current SLA of £1m that had been taken. The charge will be returned by HM Revenue & Customs on receipt of the permanent reference number once the on line application has been made.

Individual protection 2016 (subject to final rules)

A client is eligible to register for individual protection 2016 if the capitalised value of their registered pension schemes savings (crystallised plus uncrystallised) exceeds £1,000,000 as at 5 April 2016. There is no eligibility where they already have registered for primary protection (or enhanced protection with dormant primary protection).

The individual protection 2016 lifetime allowance limit is the lower of:

  1. £1,250,000; or
  2. the capitalised value of their registered pension scheme savings on 5 April 2016.

Contributions into any money purchase RPS, or benefit accrual within a final salary RPS can continue after 5 April 2016 without the protection being invalidated. 

Fixed protection 2016 (subject to final rules)

A client with capitalised pension rights of any value can apply for fixed protection 2016, The only circumstances the option is not available is if they have already registered for enhanced protection, primary protection, fixed protection (2012) or fixed protection (2014).

If they obtain fixed protection 2016, they would have a personal lifetime allowance of £1,250,000.

No contribution into a money purchase (defined contribution) RPS could be made after 5 April 2016.

Benefit accrual within a final salary (defined benefits), or cash balance RPS could not exceed a relevant percentage. (This rule was designed to ensure that people with deferred final salary, or cash balance benefits would not normally lose fixed protection 2016).

If the member obtained fixed protection 2016 and subsequently lost it:

  1. the member would need to notify HMRC within a specified timescale or risk a fine (whether they had obtained dormant individual protection or not); and
  2. HMRC would issue a new protection reference number to the member (if the member had previously obtained dormant individual protection 2016 or they subsequently applied for individual protection 2016), or the member’s benefits would be subject to the prevailing SLA.

(If a member obtained both fixed protection 2016 and individual protection 2016, fixed protection 2016 would take priority.)

Introduction of a tapered annual allowance

The normal £40,000 annual allowance (for anyone who has not triggered the money purchase annual allowance (MPAA)) will be reduced for an individual in a tax year if:

a) their ‘threshold income’ is more than £150,000 minus the annual allowance for the tax year concerned (£40,000 in 2016/17), i.e. £110,000 in 2016/17;
b) their ‘adjusted income’ is more than £150,000.

The annual allowance reduction will be £1 for each £2 of adjusted income above £150,000 (subject to a minimum annual allowance of £10,000).

Therefore, for a member with an adjusted income of £210,000, the annual allowance reduction for 2016/17 would be £30,000, so their tapered annual allowance would be £10,000 (£40,000 - £30,000).

Change to death benefit taxation

From 6 April 2016, if a member of a registered pension scheme dies:

a) on, or after, their 75th birthday; 
b) the death benefit is not paid to a UK charity within two years of the date that the scheme administrator became aware of the member’s death or the date that the scheme administrator should have been aware of the death, if earlier,

any payment made to a ‘qualifying person’ (i.e. an individual in their own capacity) will be taxed at the recipient’s marginal income tax rate(s) using the pay as you earn (PAYE) system.

The 45% special lump sum death benefits charge (SLSDBC) will continue to apply where a lump sum is paid to a ‘non-qualifying person’ (other than a UK charity within the two year period), such as a company, a discretionary trust or an individual acting in an official capacity, such as a legal personal representative.

There will be no change to the taxation of a lump sum death benefit paid to a UK charity from 6 April 2016, so the payment would be tax-free if it is made within the two year window mentioned above.

If a lump sum death benefit payment is made to an individual via a discretionary trust, the individual would receive a 45% tax credit. Consequently, if they paid income tax below the additional rate (currently 45%), they would be able to reclaim the excess from HMRC.

Issues to consider

Lifetime Allowance planning

  • Discuss with employers whether they would be prepared to stop making employer pension contributions and provide additional taxable income and/or any other form(s) of taxable benefit.
  • For DB scheme membership check whether there is any scope to restructure benefits to reduce the member’s scheme pension (for instance by enhancing a beneficiary’s death-after-retirement benefits if the member dies).
  • For DB scheme membership check actual LTA values if taking pension commencement lump sum and reduced scheme pension , rather than total scheme pension
  • For DB scheme membership review early retirement conditions and potential LTA valuations- would member benefit from taking benefits early?

If an employer will not provide any alternative to employer pension benefits, receiving:

a) 45% of any excess pension benefits (if a lifetime allowance excess lump sum is taken before 75); or
b) 75% of any excess pension benefits (if a lifetime allowance is taken as income at any age) and taxable income benefits,

and continuing active membership of registered pension scheme with ongoing tax relief on personal contributions may be the best option available for a member.

If the excess is taken via flexi-access drawdown, the member would incur an initial 25% tax charge but could choose to take no flexi-access income and leave their pension fund for their beneficiaries as part of a tax-efficient succession-planning strategy. Any death benefit taken as a lump sum and/or income would be taxable at the recipient’s marginal income tax rate(s) if member died post 75.   

If applying for fixed protection 2016:

  1.  Ensure that any regular contributions (for instance by cancelling any direct debit), including payments in relation to certain types of pension term assurance, into money purchase RPSs have stopped by 5 April 2016
  2. Ensure that the member has left pensionable service in relation to any final salary RPS by 5 April 2016.

If applying for individual protection 2016:

  • Obtain a valuation of all of the member’s RPS benefits on 5 April 2016. This may take some time for providers to produce, especially for final salary RPSs, so it would make sense to request this in advance.
  • Consider switching certain types of pension death benefits which would count towards the lifetime allowance to non-pension forms of term assurance.
  • Consider using small pots if the client has not used up their personal lifetime allowance, as this would 

- not be counted towards the lifetime allowance,

- would not trigger the money purchase annual allowance and

- would not (on its own) trigger the recycling rules. However, a member could not create any new arrangement(s) to facilitate any small pots payment(s) if they had either enhanced protection or any form of fixed protection.

Tapered Annual Allowance

  • Consider making personal contributions into an RPS to reduce the member’s threshold income to no more than £110,000, so that the tapered annual allowance does not apply.
  • If the tapered annual allowance does apply, limit total pension input (contributions into money purchase RPSs and benefit accrual in final salary RPSs) to no more than the tapered annual allowance amount from 2016/17 (plus any available unused annual allowance from the three previous tax years). For a final salary scheme, this may involve limiting the member’s pensionable salary.
  • If the total pension input exceeds the tapered annual allowance (plus any available unused annual allowance from the three previous tax years) and the annual allowance charge will be more than £2,000, consider whether to use the scheme pays facility.

Additional funding

  • Fund contributions, including unused annual allowances from 3 previous tax years before any potential further Government announcements as to long term future of pension tax relief
  • Ensure information as to how contributions/ benefit accrual for 3 previous tax years is available to determine scope of unused annual allowances, including for 2015/16 tax year split between pre and post alignment period funding.

Legacy Planning

  • Ensure up to date expression of wishes has been provided to all existing arrangements where death benefits can be provided.
  • Review what options are available to provide payments to beneficiaries on death- is nominee drawdown available as an option where potentially relevant?

The information provided in this article is not intended to offer advice.

It is based on Old Mutual Wealth's interpretation of the relevant law and is correct at the date shown on the title page. While we believe this interpretation to be correct, we cannot guarantee it. Old Mutual Wealth cannot accept any responsibility for any action taken or refrained from being taken as a result of the information contained in this article.

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