Freedom and Choice – Government publishes draft Taxation of Pensions Bill
Hot on the heels of the response to the “Freedom and choice in pensions” consultation (see our July News Alert) the government has now published much of the draft legislation, along with supporting documents, to give effect to the changes to the pension tax rules announced at Budget 2014.
This package sets out the detailed changes required to enable those aged 55 and above to access savings in their “money purchase arrangements” as they wish, subject to their marginal rate of income tax. The draft guidance is a good place to start to understand the legislation and we set out the main points below.
Comment
The draft guidance reminds readers that, for this purpose, a money purchase arrangement can be either a cash balance or a defined contribution arrangement.
The draft legislation is written in terms of the flexibility being at arrangement level, not scheme level. This should mean that the flexibilities can be applied to, for example, money purchase AVCs held in a pension scheme where the main benefits are final salary based.
Changes to drawdown and new ways of taking money purchase benefits
Drawdown providers will be able to deliver greater flexibility to their customers because under the new rules the maximum cap on withdrawal and minimum income requirements for all new drawdown funds from 6 April 2015 is removed. In addition, for those in existing funds, those with “capped” drawdown may convert, whilst those with “flexible” drawdown who have taken a payment will automatically move to the new flexibility.
This new flexibility is delivered through “flexi-access drawdown funds”. Payments from a flexi-access drawdown fund will be taxed as pension, but when funds are designated as a flexi-access fund, up to 25% of that fund can be taken as a tax free lump sum.
Pension schemes will also be able to make payments in relation to money purchase arrangements directly to members. Such payments are called “uncrystallised funds pension lump sums”. Whenever such a lump sum is paid, 25% of it will be tax free, with the remainder taxed as pension.
Introduction of a money purchase annual allowance
The government intends to ensure that individuals do not exploit the new system to gain unintended tax advantages by introducing a reduced annual allowance for money purchase savings where the individual has flexibly accessed their savings. The primary new mechanism for this is the “£10,000 DC reduced annual allowance” anti-abuse measure that was announced in the July consultation response (see our July News Alert). The new money purchase annual allowance applies if an individual:
- Receives a payment from a flexi-access drawdown fund (including payments from a short-term annuity provided within that fund)
- Receives an uncrystallised funds pension lump sum
- Notifies their scheme administrator that he wishes to convert his pre-6 April 2015 capped drawdown fund to a flexi-access drawdown fund and subsequently receives a payment from that fund
- Takes more than the permitted maximum for capped drawdown from a pre-6 April 2015 drawdown fund
- Receives a stand-alone lump sum and is not entitled to Enhanced Protection; or
- Has, prior to 6 April 2015, received a payment from a flexible drawdown fund
The new money purchase annual allowance does not replace the normal £40,000 annual allowance and the interaction between the two will undoubtedly be complex in some cases.
Changes to trivial commutation lump sums and small lump sums
Trivial commutation lump sums will not be payable from money purchase arrangements from 6 April 2015. The guidance notes that the introduction of the uncrystallised funds pension lump sum will effectively replace this for money purchase arrangements. Trivial commutation lump sums will continue for defined benefit arrangements and be payable from age 55 from 6 April 2015.
Trivial commutation lump sums (which have a £30,000 limit measure across all of an individual’s schemes) should not be confused with Small lump sums (which usually have a £10,000 per-scheme limit). As the government previously announced, Small lump sums are continuing for both money purchase and defined benefit arrangements and will be payable from age 55 from 6 April 2015.
Comment
The conditions for paying an uncrystallised funds pension lump sum do not appear to require a check across all of a member’s pensions savings in all schemes – the requirement which has made trivial commutation lump sums so laborious since 2006.
Removal of certain restrictions on lifetime annuity payments
From 6 April 2015 the annual rate of a lifetime annuity will be allowed to decrease as well as increase. Lifetime annuities will also be permitted to have a guarantee period on death of more than ten years.
And not announced before, there will no longer be a requirement that the member must have been given the opportunity to select the insurance company (the “open market option”), although schemes may still offer the member this opportunity should they wish.
Permissive scheme rules override
HM Treasury intend that legislation will introduce a limited right for scheme trustees and managers to override their scheme’s rules to pay flexible pensions from money purchase pension savings. The guidance confirms that “scheme trustees or managers will not be compelled to provide benefits using the new flexible access provisions.”
Comment
Since many of these new flexibilities are permissive (with the exception of the new money purchase annual allowance!) trustees, managers and employers need to consider which they wish to introduce and check their scheme rules both to see what action needs to be taken to introduce the desired changes and also prevent any unintended changes.
Impact on government finances and numbers affected
The tax information and impact note accompanying the legislation indicates that the government expects these changes to raise £320m in 2015/16, rising to £1,220m in 2018/19 before reducing in 2019/20. It also suggests that whilst under the current rules around 5,000 people a year access their pension savings flexibly, this is expected to increase to around 130,000 a year from next April.
Comment
One fact which does not seem to have widely been understood by the general public yet is that taking a pension fund of any reasonable size as cash in one go could quite easily push an individual into the next income tax bracket. In particular, individuals who take their entire fund in one go and find themselves pushed from a 20% marginal income tax rate to a 40% marginal rate could get quite a shock as they realise how much extra tax they have just given to HM Treasury.
Consultation closes on 3 September 2014 with the Bill itself being introduced to Parliament in the autumn.
When RPI doesn’t necessarily mean the RPI
The High Court has handed down a judgment in a case involving high street retailing group Arcadia on a proposed switch involving two pension schemes to the generally cheaper Consumer Prices Index (CPI) from the Retail Prices Index (RPI). Both schemes were closed in 2010 with active members becoming deferred pensioners. The intended switch is to apply to increasing pensions in payment in both schemes and revaluing deferred pensions in one.
The scheme rules set the indexation and revaluation requirements in question by reference to the “Retail Prices Index”, which was defined as “the Government’s Index of Retail Prices or any similar index satisfactory for the purposes of…” with one scheme then referencing the Inland Revenue and the other HM Revenue & Customs (HMRC).
The key conclusions are that:
- The Retail Prices Index definitions operate in these schemes to confer powers to select an index other than the RPI. Importantly it was not necessary for the RPI to cease to be published in order for another index to be used
- Each such power of selection is exercisable by the employer and the trustee of the relevant scheme jointly (this is because the Arcadia schemes’ amendment powers are jointly exercisable)
- The CPI is a similar index “satisfactory for the purposes of…”. The reference to the Inland Revenue was a throwback to the days when schemes were approved by rather than registered with the Inland Revenue and an important issue in assessing the scheme against Inland Revenue limits was the generosity of the index used. In relation to indexation, HMRC confirmed that the CPI was a satisfactory index. It had not responded on the revaluation point but, having regard to certain relevant factors, the Court could not see how HMRC could come to a view that it was not acceptable
- Section 67 of the Pensions Act 1995 (which protects accrued pension rights) does not in this case preclude the selection of the CPI for use in connection with benefits derived from past service
However, in a small setback to the employer, none of this applied to the benefits of those who left the service of one of the schemes before 31 March 2006. This was because the power of selection had not been introduced into that scheme before then.
Comment
This judgment is consistent with the 2012 QinetiQ case (see Pensions Bulletin 2012/12). Indeed, on being challenged that this case was wrongly decided, the judge concluded that it had not been. As such, it is further judicial authority for the proposition that, depending on how increase rules are phrased, schemes may move to CPI indexation for future revaluation and indexation in respect of past service. Whilst the facts are specific to the Arcadia schemes the formulation of the pensions increase rule is a common one and so trustees considering a switch may find the judge’s conclusions helpful.
Perceptions of the Pensions Regulator remain high
The Pensions Regulator has published the results of a survey which suggest that, once again (see Pensions Bulletin 2013/36 for last year’s report) most pension professionals think it is doing a good job.
In this year’s survey 69% of overall respondents consider the Regulator’s performance to be “good” or “very good” (up from 66%), 94% agree that the Regulator is a “trusted source of information”, whilst 89% believe the Regulator is “independent” (up from 84% last year).
Other findings include: that 31% of those aware of “pension scams” say their opinion of the Regulator has improved because of its actions this past year; 77% of employers believe the Regulator is effective in maximising compliance with auto-enrolment duties; and on average, 73% agree that the Regulator meets the “PACTT Better Regulation” principles (to be proportionate, accountable, consistent, transparent and targeted).
Progress report on audit of charges and benefits in legacy DC workplace pension schemes
An Independent Project Board (IPB), made up of representatives from pension bodies and regulators as well as the Department for Work and Pensions, has published a progress report on its audit of charges and benefits in legacy defined contribution (DC) workplace pension schemes. Participation in the IPB was one of the remedial steps referred to by the Office of Fair Trading, following its review of the DC workplace pensions market, as justifying it not referring the DC market to the Competition Commission despite serious misgivings (see Pensions Bulletin 2014/06).
The report outlines the scope of the audit and the approach and methodology being used to undertake it. It does not contain any initial results.
The report proper is expected in December 2014. This will set out any recommendations for actions that may be needed to address those schemes assessed as having high charges without commensurate benefits.
FCA proposes independent governance committee requirement on workplace personal pensions
The Financial Conduct Authority (FCA) has launched a consultation on proposed rules that will require the providers of workplace personal pension schemes to set up and maintain independent governance committees (IGCs) as part of an ongoing package of reforms intended to help ensure that all workplace pension schemes are high quality and offer value for money.
These IGCs are to provide governance oversight of DC workplace personal pensions, such as group personal pensions. They are intended to act in the interests of scheme members by providing a credible and effective challenge to providers on the value for money of their pension schemes.
FCA finalises new capital regime for SIPP providers
The Financial Conduct Authority (FCA) has finalised new capital rules for self-invested personal pension (SIPP) operators from 1 September 2016, following a number of provider failures and close calls which have caused or significantly increased the risk of harm to members.
The new rules regime builds on the regulatory capital framework proposed by the Financial Services Authority in November 2012 (see Pensions Bulletin 2012/49) with some minor adjustments.
Court of Appeal rejects claim for retrospective state pension by a transgendered person who remained married
The Court of Appeal has rejected a transgendered person's backdated claim to be entitled to receive the female state pension at the age of 60. The person, identified as MB, underwent gender reassignment surgery in 1995 but chose to stay married to her wife. Her refusal to annul her marriage meant that a full gender recognition certificate could not be issued under the Gender Recognition Act 2004, such that for the purposes of claiming state pension she is still classed as a man.
The Judge noted that once provisions of Schedule 5 of the Marriage (Same Sex Couples) Act 2013 come into force it will be possible to issue a gender recognition certificate without a marriage being annulled, but these provisions are not retrospective and in this case will not, therefore, give MB the right to a state pension from the age of 60.
This Pensions Bulletin does not constitute advice, nor should it be taken as an authoritative statement of the law. For further help, please contact David Everett at our London office or the partner who normally advises you.
