This is the eighth edition of the Pensions Tax Simplification Newsletter. The Newsletter keeps pension providers, employers and savers informed of new developments before A-Day. If you are a pension provider or an employer, please make sure that the appropriate people in your organisation read it.
In Newsletter No 4 item 4a on Enhanced protection and contributions for life cover we explained that some arrangements providing death benefits using life cover policies are other money purchase arrangements. We have subsequently received a number of queries about this article and we are now providing further clarification.
Not all arrangements in registered pension schemes containing life cover policies will be other money purchase arrangements. The type of arrangement is determined not by whether life cover is provided but by the nature of the promise to the member under the arrangement.
The guidance on the different types of arrangement a member of a registered pension scheme may have is set out in RPSM09100200 to RPSM09100260. This article provides more detail. To find out the type of arrangement in any particular scheme you need to go to the scheme documentation to see what benefits have been promised to the member. A policy providing life cover may deliver other money purchase benefits, cash balance benefits or defined benefits depending on the terms of the arrangement.
You should first decide whether under the terms of the individual’s arrangement the benefits to be provided are to be calculated by reference to a pot of money that will be made available for their provision (what the legislation calls “an amount available”). If the answer is no, then the arrangement is a defined benefits arrangement. If the answer is yes, then the arrangement is a money purchase arrangement, and you then have to go on to decide whether it is a cash balance or an other money purchase arrangement.
The difference between cash balance and other money purchase arrangements is set out in RPSM09100255 . Under a cash balance arrangement the benefits are calculated by reference to a specified pot, which will be made available regardless of the amount of any actual payments to and investment growth in the pension fund. Whereas under an other money purchase arrangement the benefits are calculated by reference to a pot, the amount of which is not specified in advance but is simply the amount of payments into the pot and investment growth up to the date of the calculation of the benefits. The investment growth can include the proceeds of a life cover policy held under a scheme for the member.
It is the actual terms of the scheme documentation that are important. For example, a scheme may contain a life cover policy for £500,000 for an individual member. However the terms of the scheme state that the scheme will pay a lump sum death benefit of the return of the member’s fund. The proceeds of the life cover policy will form part of the funds in the member’s arrangement. As the scheme documentation does not promise a set monetary amount will be available to provide benefits the benefits are other money purchase benefits and the arrangement will be an other money purchase arrangement.
Contracts approved under S621(1)(b) ICTA 1988, commonly known as S226A policies, will automatically become registered pension schemes on 6 April 2006. For these schemes the only asset is a life cover policy and the scheme documentation will be the life policy. The amount provided by the policy is dependent on the premiums that have been paid. The benefits provided are calculated by reference to a pot, which is itself calculated “…wholly by reference to payments made under the arrangement”. As such S226A policies are other money purchase arrangements.
It is possible for a scheme to contain more than one type of arrangement. For example a scheme may provide a member with retirement benefits on an other money purchase basis and also provide benefits on death in service of 4 x salary. The retirement benefits are other money purchase benefits and the death benefit is a defined benefit. So the scheme contains two types of arrangement – an other money purchase arrangement for the retirement benefits and a defined benefits arrangement for the death benefits.
If a contribution is paid to an other money purchase arrangement after A day enhanced protection will be lost. However where a premium for a life policy is paid for from funds in the arrangement on 5 April 2006 enhanced protection will not be lost.
Benefits paid from an other money purchase arrangement will not cause enhanced protection to be lost. This is because there is no relevant benefit accrual test on benefit payment from an other money purchase arrangement.
The payment of lump sum death benefits from a cash balance or defined benefits arrangement may cause enhanced protection to be lost. This is because a benefit paid from a cash balance or defined benefits arrangement that is a benefit crystallisation event will trigger a relevant benefit accrual test. You should test the total value of benefits provided from cash balance and defined benefits arrangements for an employment against the appropriate limit of the value of the benefits protected at A day. This is explained in RPSM03109510 to RPSM03109550. Where the total benefits paid in respect of an employment are more than the appropriate limit enhanced protection will be lost and any lump sum benefit provided over the member’s available lifetime allowance will be taxable at a rate of 55%.
Bill has benefits provided from a defined benefits arrangement for his employment with X plc. He protected £3.2 million of retirement benefits for this employment using enhanced protection and primary protection. Five years later Bill dies and his scheme provides a lump sum death benefit of 4 x his salary of £700,000, i.e. £2.8 million. This lump sum is less than the amount of his protected benefits so Bill retains enhanced protection. The lump sum can be paid tax free.
As above except Bill’s retirement benefits are provided from an other money purchase arrangement and his death benefits are provided from a defined benefits arrangement. Death benefits have a Nil value for protection purposes. So for the relevant benefit accrual test for the defined benefits arrangement the appropriate limit is Nil. The payment of the £2.8 million lump sum death benefit from the defined benefit arrangement causes Bill to lose enhanced protection for all rights in all his registered pension schemes. As Bill had registered for primary protection as well as enhanced protection he reverts to primary protection and his available lifetime allowance is now £4 million. This means total tax free lump sum death benefits of £4 million can be paid form both his defined benefits and other money purchase arrangement. However if Bill had not registered for primary protection the amount over the standard lifetime allowance would be taxable. So if the lifetime allowance is £1.8 million any amount over £1.8 million would be taxable at 55%.
Individuals will be able to accumulate tax privileged pension savings up to the lifetime allowance. Savings tested when benefits are taken and found to be in excess of the lifetime allowance will be subject to a lifetime allowance charge. The amount of the lifetime allowance will be £1.5million during 2006/07, rising to £1.8 million in 2010/11. The lifetime allowance charge will be made on funds in excess of the lifetime allowance. This will be a tax charge of 25% if the excess is taken as a pension or, alternatively, if the excess is taken as a lump sum, the charge will be at 55%.
The amount tested against the lifetime allowance is the capital value of the benefits paid, taking into account any benefits paid previously. For example, if a member starts receiving a scheme pension, the capital value is the amount of the pension multiplied by 20. If it is a money purchase arrangement, and the member becomes entitled to a lifetime annuity, the capital value will be the amount used to purchase the annuity. Any pension that came into payment before A-Day must also be valued using a valuation factor of 25. Therefore, if you have a pre A-Day pension in payment of £10,000, and a post A-Day pension of £10,000, that accounts for £450,000 of the LTA (£250,000 and £200,000).
The introduction of these rules may affect a small number of people who have funded their current pension schemes to above the lifetime allowance. It may also affect those who are currently under the lifetime allowance, but whose investment growth will take them over the lifetime allowance. For these people, HMRC has made various transitional arrangements.
There are two types of ‘Protection of existing rights’ for those who may be affected by the lifetime allowance charge. These are detailed below. Individuals who wish to register entitlement for either type of protection have three years following A-Day to do so, that is, until 5 April 2009. It is the responsibility of the individual to notify HMRC. Schemes should provide information to the individual to assist them in their decision to register for protection.
‘Primary Protection’ is available for those whose funds are in excess of £1.5 million at 6 April 2006. Individuals in this situation can register for protection, and will be given an enhanced lifetime allowance factor. For example, someone with a fund of £3million at A-Day (twice the initial lifetime allowance) will be given an enhancement factor of one. If they then take their benefits in 2010/11 when the lifetime allowance is £1.8million, their personal lifetime allowance will be £3.6million. This 1. section of the Registered Pension Schemes Manual (RPSM) gives more information.
‘Enhanced Protection’ can apply to funds that are either above or below £1.5 million. An individual would register for this if their fund were below £1.5 million but they believe that the growth on their investments will take their fund value above the lifetime allowance in force when they take their benefits. The rules around enhanced protection differ depending on type of benefit.
If enhanced protection has been registered, it will be lost if any contributions are made for other money purchase benefits. If someone registers for enhanced protection and makes no contributions or transfers, on taking their benefits there will be no liability to the lifetime allowance charge. This 2. section of the RPSM gives more information.
Contributions may continue for defined benefits and cash balance benefits. Enhanced protection will be lost if the value of the benefits taken is greater than the value of the individual’s pension rights as at 5 April 2006 by more than the permitted amount. This 3. section of the RPSM gives more information on this.
An individual may register for both primary and enhanced protection to protect their benefits. Enhanced protection is considered first if both are notified, but if enhanced protection is lost, then the individual will revert to the primary protection.
Other types of protection
In addition to the reforms already discussed, HMRC will be raising the minimum pension age from 50 to 55 by 6 April 2010. Individuals who are members of schemes that currently offer a retirement age below that and who are due to retire after 2010 will automatically receive protection of this right.
In the new regime, schemes will be able to offer tax-free lump sums of up to 25% of the individual’s pension fund. Those who are currently promised more than a 25% lump sum will automatically receive protection. This 4. section of the RPSM gives more information on this.
International protection is designed to exclude from the lifetime allowance charge any part of a pension fund that has not received UK tax relief. In broad terms, there are two situations included, one where a member of a UK registered pension scheme has been an active member of a registered pension scheme while not UK resident. The other is where funds are transferred from an overseas scheme into a registered pension scheme. There is also a provision to protect certain pension credit rights from the lifetime allowance charge. For more information see chapter 13 of the RPSM
It is important to note that registering for Protection of your existing rights is not a claim or an application. Individuals can register their entitlement with us by completing and submitting the relevant forms (which can be downloaded from our website from A-Day).
We will then issue a certificate with a unique reference number and with the details of their entitlement. When there is a benefit crystallisation event (BCE) and the individual needs to rely on a certificate to reduce or eliminate liability to a lifetime allowance charge, they must provide the relevant details to the Scheme Administrator. Scheme Administrators will be able to check the details with HMRC if the individual authorises them to do so.
The functionality will be available for a Scheme Administrator to:
A Practitioner will be able to:
When the details of existing approved pension schemes (deemed to be registered schemes from 6 April 2006) are transferred to the new HMRC database supporting Pension Schemes Online their current HMRC SF reference will be replaced with a new 'Pension Scheme Tax Reference (PSTR). The new reference will be in the format NNNNNNNNRC. Character Position 1 – 8 will be numeric, character position 9 will be an “R”, and character position 10 will be a check character. Pension schemes registering on or after 6 April 2006 will also be given a Pension Scheme Tax Reference (PSTR) that follows this format. Pension Schemes set up on or before 5 April 2006 that are approved after 5 April 2006 will be sent their PSTR with their approval letter.
To file reports and returns it will be necessary to quote accurately the PSTR. Where exceptionally this reference is unavailable the old SF reference, which was provided in the original approval letter, may be used. Or if it is a retirement annuity or deferred annuity contract in existence at 5 April 2006 the contract or policy reference should be used.
Once a Scheme Administrator or authorised practitioner of a scheme in existence on 5 April 2006 has pre-registered to use the Pension Schemes Online service they will from 6 April 2006, immediately following completion of registration for Pension Schemes Online be able to view the PSTR of the pension scheme(s) they are linked with.
The PSTR of new pension schemes registered on or after 6 April 2006 will also be viewable by the Scheme Administrator and their authorised Practitioner. If a Scheme Administrator acts for a number of registered pension schemes or a practitioner is authorised to act on behalf of a number of Scheme Administrators of registered pension schemes then they will be able to view a list of the schemes to which they are linked.
For existing approved schemes the linking of Scheme Administrators and authorised practitioners to schemes will be carried out under the pre-registration exercise open until 31 January 2006. The links will also be made in respect of new schemes submitting a Form PS252 with an application for approval by 31 January 2006.
Here is a flowchart (PDF 10K) showing the process to follow to carry out pre-registration and registration under the exercise open until the end of January 2006.
Where forms are not submitted by 31 January 2006 we cannot guarantee that the links will be made before 6 April 2006.
Scheme Administrators not linked to schemes at 6 April 2006 will be unable to access their pension scheme record online until they have carried out pre-registration and completed registration. This process will take around 5 working days. It will also not be possible to link a practitioner to the scheme until the Scheme Administrator has given his authorisation to do so.
Further Regulations were published on 15 December 2005.
This results in just over 60 Regulations or orders being published although some of these will be consolidated into a single transitional order so the final number of Regulations and orders to be laid will be just over 40. The first tranche of 11 Regulations representing some 25% of the total regulations was laid 15th December 2005 and will come into force 6th April 2006.
The new simplified regime for the taxation of pensions has been designed following extensive consultation and collaboration with the pensions industry, and in particular with Pension Industry Working Group (PIWG) members. We very much value all comments and insights, and want to continue and develop the very productive relationship. The regulations now being laid in the main will put in place the machinery necessary to enable pension providers to operate the new pensions regime.
The Statutory Instruments laid 15 December 2005 are as follows.
The Registered Pension Schemes (Relief At Source) Regulations
These regulations make provisions for relief from tax on payments made to scheme administrators of registered pension schemes.
The Registered Pension Schemes (Prescribed Interest Rates For Authorised Employer Loans) Regulations 2005 No.
These regulations prescribe the rate of interest payable on a loan made by a registered pension scheme to a sponsoring employer.
The Registered Pension Schemes (Minimum Contributions) Regulations 2005 No.
These regulations supplement the provisions of section 202 FA 2004 whereby the Commissioners for Her Majesty's Revenue and Customs pay minimum contributions to a registered pension scheme.
The Registered Pension Schemes (Prescribed Schemes And Occupations) Regulations 2005 No.
These regulations prescribes the pension schemes the members of which can preserve their full entitlement to benefits under those schemes in the event that they take such benefits before they reach normal minimum pension age.
The Registered Pension Schemes (Discharge Of Liabilities Under Sections 267 And 268 Of The Finance Act 2004) Regulations 2005 No.
These regulations make supplementary provision in connection with applications by scheme administrators and other persons for relief from certain charges.
The Employer-Financed Retirement Benefit Schemes (Provision Of Information) Regulations 2005 No.
These regulations set out the prescribed information that must be supplied to Her Majesty's Revenue and Customs by administrators of Employer-Financed Retirement Benefit Schemes.
The Registered Pension Schemes (Accounting And Assessment) Regulations 2005 No.
These regulations make provision in relation to the making of assessments and related matters with charges to tax under Part 4.
The Registered Pension Schemes And Employer-Financed Retirement Benefits Schemes (Information) (Prescribed Descriptions Of Persons) Regulations 2005 No.
These regulations describe the persons to whom an officer of Revenue and Customs may give a notice requiring the production of documents and information about pension schemes.
The Registered Pension Schemes (Audited Accounts) (Specified Persons) Regulations 2005 No.
These regulations prescribe the persons who may audit the accounts of a registered pension scheme.
The Taxes Management Act 1970 (Modifications To Schedule 3 For Pension Scheme Appeals) Order 2004 No.
This Order makes modifications to the Taxes Management Act in respect of appeals by scheme administrators.
The Registered Pension Schemes (Restriction Of Employers’ Relief) Regulations 2005 No.
These regulations restrict in certain circumstances the extent to which contributions paid by an employer under a registered pension scheme in respect of an individual are subject to tax relief.
The minutes of the Pensions Industry Working Group meeting of 22nd November 2005 have been published on the Internet
From 6 April 2006 all Registered Pension Schemes operating Relief at Source on contributions paid by individuals, are required to submit an annual information return. Scheme Administrators of current Personal Pension Schemes (including Stakeholder Pension Schemes) will already be well acquainted with this requirement which is set out at Part 17B of IR76 Guidance Notes.
Under Pensions Simplification, there will be a greater emphasis on self certification by an individual member when making contributions to the scheme. So, the information a scheme has to provide for each member in the annual information return is significantly reduced for the tax years 2006-07 onwards.
HMRC has produced a revised version (PDF 268K) of the Magnetic Media Specification for use in 2006-07 and this is now available on the Pensions Simplification pages of the HMRC website..
Scheme Administrators of existing Personal Pension Schemes (including Stakeholder Pension Schemes) must still use the present version (PDF 156K) of the specification for reporting data for the current tax year to 5 April 2006, prior to the introduction of Pensions Simplification.
Here is a link to this Update (PDF 22K) which details the action HMRC will take in relation to pre A Day avoidance
More information has been published in the Employment Income Manual.
We have published the answers to some of the current most commonly asked questions to our Helpline . These will be updated on a regular basis to reflect any “hot topics”
We will not be creating a large number of frequently asked questions as the RPSM will when complete provide any information that you require.
We have produced a set of factsheets aimed to address individuals, employers and associated international issues. These provide information in a simple format around Simplification and the effects it may have on each group of people. In them, you will also find information on tax relief, protection and a signpost to other sources of information. These may be passed on as appropriate to your clients or staff and they will be available via the ‘other published material’ link on the Simplification homepage.
If you have any questions about anything to do with tax rules for pensions and you cannot find the answer in the Registered Pension Schemes Manual, you can contact us by email, phone or write to us using the details found on our contact page.