Pensions Flexibility Taxation Proposals

Transcription

1 2014/28 14 August 2014 Pensions Flexibility Taxation Proposals Introduction On 6 August 2014, the Government published some of the detail behind its taxation proposals for the defined contribution (DC) pensions flexibility to be introduced from April This detail is in the form of a draft Taxation of Pensions Bill along with associated guidance. From these documents, some of the key design elements that will become part of the new pensions landscape are emerging, including the anti-avoidance provisions, where the annual allowance rules are amended once the member accesses the new DC flexibility. The main features of these elements are set out below. It should be borne in mind that this is only draft legislation for consultation until 3 September 2014 and a number of the finer details (such as the tax information and reporting requirements) have not yet been specified in the draft Bill. References in this Spotlight to DC or money purchase should be read to include cash balance arrangements. These changes will apply on an arrangement level, rather than a scheme level. Flexi-access drawdown funds All drawdown pension funds first designated on or after 6 April 2015 will be known as flexi-access drawdown funds. All existing funds designated before 6 April 2015 for the purposes of flexible drawdown (a form of drawdown that was introduced from 6 April 2011 for those meeting a minimum income requirement) will automatically become flexi-access drawdown funds on 6 April Transitional rules (explained below) will apply to members already in capped drawdown. As is the case already with other pension income options, a tax-free pension commencement lump sum (PCLS) equal to 25% of the fund value can be taken when designating funds as available for flexi-access drawdown. There will be no restrictions on the amount of that can be withdrawn from a flexi-access drawdown fund, but the member will face new annual allowance restrictions for further savings to money purchase arrangements once such withdrawals commence (explained below). Such withdrawals This document is based on our understanding of current law and taxation at the date shown above. Policy, practice and legislation may change in the future. For more information on how your particular circumstances may be affected, please contact us. This document is for reference purposes only and does not constitute financial advice. Capita Employee Benefits is a trading name of Capita Employee Benefits Limited and Capita Employee Benefits (Consulting) Limited. Part of Capita plc. Capita Employee Benefits Limited and Capita Employee Benefits (Consulting) Limited are registered in England & Wales No: and respectively. Registered Office: 17 Rochester Row, Westminster, London SW1P 1QT. Separately authorised and regulated by the Financial Conduct Authority

2 (whether via income withdrawal or a short-term annuity) will be taxed at the member s marginal rate of income tax. Existing capped drawdown arrangements Any drawdown pension funds created before 6 April 2015 under the existing capped drawdown rules can remain as capped drawdown and, for as long as they continue to follow those rules, the new annual allowance restrictions on DC savings will not apply. New designations will be allowed on or after 6 April 2015 to capped drawdown arrangements but only where the income withdrawal/short-term annuity does not exceed the maximum limit under the existing rules for capped drawdown. (The current maximum limit is an amount equal to 150% of the income that would be provided from an equivalent annuity based on tables produced by the Government Actuary s Department.) Alternatively, a member with an existing capped drawdown fund may wish to convert it into a flexiaccess drawdown fund so as to be able to make unrestricted withdrawals. Potentially, this could be done by either notifying their scheme administrator (once the Taxation of Pensions Bill receives Royal Assent) or by simply taking more than the maximum amount after 5 April However, it is possible that some schemes may be able to prevent the conversion or taking more than the maximum limit, depending on their existing rules and the attitude of their trustees or managers. Dependants and the ability to take flexi-access drawdown Similar options for flexi-access drawdown funds will apply for dependants as for members so that: - Any funds designated by a dependant after 5 April 2015 will be a dependant s flexi-access drawdown fund; - All flexible drawdown dependant funds will become flexi-access drawdown funds on 6 April 2015; and - Existing capped drawdown dependant funds can either remain as capped drawdown and accept further designations of funds or may be converted to a flexi-access drawdown fund after 5 April 2015 if the member wishes to and the scheme rules do not prevent this, or withdrawing more than the maximum amount after 5 April A significant difference from the member rules is that a dependant designating funds to flexi-access drawdown will not trigger the new annual allowance restrictions on money purchase savings, but they could be triggered if the dependant holds money purchase benefits in his or her own right elsewhere in other arrangements, which they access under the new DC flexibilities; i.e designation into a flexiaccess drawdown fund or payment of a uncrystallised funds pension lump sum. Flexi-access drawdown fund lump sum death benefit A new category of authorised death lump sum payment from a flexi-access drawdown fund called a flexi-access drawdown fund lump sum death benefit will be created. This is a lump sum payment payable on the death of a member or dependant, equal to no more than the amount in the flexi-access drawdown fund. The death benefit would be subject to the standard death benefit drawdown tax charge, currently 55%, but due to be reviewed in the Autumn Statement. Where a capped drawdown fund has not been converted to a flexi-access drawdown fund by the time of the member s or dependent s death, a drawdown pension fund lump sum death benefit can still be paid as applies at present. Spotlight: Pensions Flexibility Taxation Proposals 2

3 Uncrystallised funds pension lump sum It will be possible for individuals to bypass the flexi-access drawdown arrangements and take their DC funds directly as a single or series of lump sums, without first having to designate to drawdown. From 6 April 2015, a new form of authorised payment will be created called an uncrystallised funds pension lump sum (UFPLS), which will be a benefit crystallisation event BCE6. As its name implies, this payment only applies to money purchase funds that have yet to be crystallised. Where a retirement income has already been secured before April 2015, a UFPLS will not be available. If taken before age 75, then the member must have sufficient lifetime allowance to cover the payment of a UFPLS. If taken after age 75, then only some of the lifetime allowance need be available at that time. If all of the lifetime allowance has been exhausted, then a UFPLS will not be available. Where a UFPLS is taken, no PCLS will be available. Instead: - for those under age 75, 25% of the lump sum can be paid tax free with the rest taxed at the member s marginal rate provided the member has sufficient lifetime allowance. If they do not have sufficient available lifetime allowance, then a UFPLS could be paid up to the member s available lifetime allowance. The excess would not be a UFPLS but instead a lifetime allowance excess lump sum, taxable at 55%. - for those aged 75 or over, 25% of the lump sum that is within the member s lifetime allowance will be tax free with the rest of the sum within the lifetime allowance taxed at the member s marginal rate. As a lifetime allowance excess lump sum is only available to those under age 75, any amount in excess of the lifetime allowance will already have been subject to a lifetime allowance charge of 25% at age 75. The residual fund will be subject to tax at the member s marginal rate. A UFPLS is not available (although flexi-access drawdown may be) where: - the member has either enhanced or primary protection and has protection for lump sum rights of greater than 375,000; or - the member has a lifetime allowance enhancement factor (e.g. because of primary protection or a transfer from an overseas scheme) and the available lump sum allowance is less than 25% of the would-be uncrystallised funds pension lump sum. Once a UFPLS taken on or after 6 April 2015, the member will then be subject to the new money purchase annual allowance rules. Money purchase annual allowance rules A new lower money purchase annual allowance of 10,000 will apply from 6 April 2015 to individuals who: - designate funds into a flexi-access drawdown fund and take income withdrawal/short-term annuity; or - receive an uncrystallised funds pension lump sum; or - had previously taken flexible drawdown prior to 6 April 2015; or - have existing capped drawdown but then convert it into a flexi-access drawdown fund and take income withdrawal/short-term annuity from that fund. Spotlight: Pensions Flexibility Taxation Proposals 3

4 Individuals who trigger the lower money purchase annual allowance would appear to also have a separate annual allowance for DB pension savings. Where DC pension savings exceed 10,000, the annual allowance for DB pension savings will be equal to 30,000; i.e. the rest of their usual annual allowance (plus carry forward from previous years). This includes those who had previously taken flexible drawdown and who therefore had a zero annual allowance for DB accrual before 6 April Unused annual allowance brought forward from earlier tax years will not be available to increase the 10,000 annual allowance for money purchase savings. Where the trigger event for the 10,000 money purchase annual allowance was mid-way during a tax year, then broadly only DC contributions and cash balance/hybrid accrual after the trigger event will count towards the lower money purchase annual allowance. The 10,000 annual allowance should not apply to an individual if they receive a small pot lump sum, a pension commencement lump sum, or are in receipt of a scheme pension or a lifetime annuity. There will be special rules for hybrid benefits to determine if they fall within the scope of the new lower money purchase annual allowance or fall to be treated as a form of DB accrual. Annuity reforms The requirement for the member to be given the opportunity to select a provider before purchasing a lifetime annuity is to be removed from the tax legislation. We understand that it will be imposed using pensions legislation instead, so that penalties for breaching it fall on schemes and not members. All of the different categories of annuities will be able to reduce as well as increase in value if that is what their annuity contract stipulates. The maximum ten-year guarantee period for lifetime annuities will be removed, which enables annuities to continue to be paid after the member s death for any period set out in the annuity contract. Trivial commutation and small pot lump sums The age limit for taking trivial commutation and small pot lump sums will be reduced from age 60 to the normal minimum pension age (currently 55), or earlier if the member has a protected pension age. The definition of a trivial commutation lump sum will be amended from 6 April 2015 so that they will only be payable from DB arrangements. This is because DC arrangements can instead pay a UFPLS. However, the valuation of pension rights will remain unchanged so that both money purchase and DB rights must be included in the valuation. Also the trivial commutation lump sum must extinguish all of the member s entitlement to benefits under the whole scheme and not just the DB part of it. Small pot lump sums will continue for money purchase and DB arrangements and be payable from normal minimum pension age, or earlier if the member has a protected pension age. The maximum trivial commutation lump sum death benefit will increase to 30,000 in respect of members who die after the day on which Royal Assent is given to the Bill. From the same date, the trivial commutation lump sum death benefit rules will be extended to allow the remainder of a guaranteed pension up to a value of 30,000 to be taken as a lump sum on death rather than continue to pay it as a pension. The facility to pay winding-up lump sum death benefits will be removed from the date of Royal Assent to the Bill, because all such lump sums are also trivial commutation lump sum death benefits. Spotlight: Pensions Flexibility Taxation Proposals 4

5 Other measures Rules override The legislation will be amended to allow scheme trustees and managers to make payments of drawdown pensions, purchase short-term annuities or pay an uncrystallised funds pension lump sum in respect of money purchase arrangements. This is the case notwithstanding any rules provisions that would disallow such a payment. This does not appear to give the employer any scope to stipulate the policy on these matters and it would appear impossible for the employer to put in place a rules provision preventing the trustees from allowing these payments. Temporary periods of non-residence Individuals receiving pensions while non-resident usually do not pay tax on income where the UK has a double taxation agreement with their country of residence. Currently, there is legislation to deter people using flexible drawdown to avoid tax by being non-resident in the year of taking the drawdown income and then promptly returning to the UK. An individual will be taxed on their return to the UK for their flexible drawdown benefit if: - They were a UK resident for at least four of the last seven tax years before leaving the UK; - They return to the UK and become resident again for tax purposes; and - There are fewer than five tax years between the year of departure and the year of return. From 6 April 2015, this regime will be extended to cover all flexi-access drawdown pensions (whether member s or dependant s drawdown), any uncrystallised funds pension lump sums taxable as pension income (i.e. excluding any tax-free element) and any withdrawals from a drawdown fund where the person was entitled to a flexible drawdown before 6 April Comment The policy direction is now much clearer, but there are a number of missing elements to the Bill and a lack of clarity in some areas. For example, the practicalities of reporting on the new annual allowance restrictions for money purchase savings and how the scheme administrator is fully informed about which members are subject to this provision. In addition, with the option of the uncrystallised funds pension lump sum likely to prove attractive for many members, the Government needs to clarify the rate at which scheme administrators deduct tax from that payment. Members must understand that selecting this option may mean their total income for the tax year is subject to a higher rate of tax than normal. The new annual allowance rules are very complex but there are still possiblities for extra pension savings to be made so we would question the adequacy of this anti-avoidance measure, especially as the administration will be onerous. With the statutory override being permissive, trustees and managers will need to consider which of the flexiblities to introduce for their scheme. Spotlight: Pensions Flexibility Taxation Proposals 5