R04 Gap Fill LO 102 a Slide 1 In this session we will cover R04 learning outcome 102, drawing retirement benefits - compliance requirements for defined contribution schemes. This learning outcome deals with the main options under scheme pensions, lifetime annuities and the two new drawdown arrangements. As you ll probably be aware, there have been some big changes to unsecured pension products and rules since 6th April 2011. Slide 2 We will begin by walking through the main options available when a member of a registered pension scheme decides to crystallise their pension benefits and start to draw a secured income. This will include scheme pensions or lifetime annuities, or commutation on the grounds of triviality. Slide 3 We will then move on to look at the main HMRC rules surrounding scheme pension benefits. Slide 4 The rules and restraints applying to dependants pension benefits. Slide 5 Lifetime annuity benefits. Slide 6 The main types of annuity available and the underlying factors that affect annuity rates. Slide 7 The rules surrounding commuting small pension benefits on the grounds of triviality. Slide 8 The options and rules applying to the two new Drawdown products that have been available since 6th April 2011. You ll be aware that Capped and Flexible Drawdown have replaced the previous Unsecured Pension and Alternatively Secured Pensions. Slide 9 This means we will need to look at the transitional rules that apply to all those policyholders who were in unsecured pensions prior to 6 th April 2011.
Slide 10 After that, we will consider the main options available on the death of a drawdown member. Slide 11 Then the risks of utilising capped and flexible drawdown. Slide 12 And some of the FSA rules and standards that apply to minimise the chances of a client not understanding those risks. Slide 13 Then we ll look at the main aspects of phased annuity purchase and phased Drawdown Slide 14 And then finally we will consider the timing issues of when to crystallise pension benefits. Slide 15 The first of those subjects that we will pick up is secured pensions. As mentioned earlier, this will include scheme pensions, lifetime annuities, and trivial commutation. Slide 16 Simplification of the pension regime from 6 April 2006 brought many changes, not least the option for people to carry on working but still be able to draw their pension benefits. New language such as crystallising benefits came in, as well as the narrowing down of pension benefits into three main types. Slide 17 The first is scheme pensions. These can be paid in one of two ways. The first is via an insurance company. The scheme pays a lump sum to an insurance company to transfer the liability of the pension benefits due. Of course this means a large outflow of cash from the scheme to the insurer. But it does reduce the administration costs and future liabilities for that scheme, because the member may live for a long time draw a lot of pension out of the scheme. The other way of providing the scheme pension is to pay income each month directly from the scheme to the member. In this case the scheme hangs on to its cash to invest and may benefit from a saving if the member dies prematurely. On the flip
slide, the scheme bears the investment and mortality risk that would otherwise have been passed on to an insurance company. Defined benefit members pension income has to be paid via a scheme pension. Scheme administrators can choose from these two options to secure that pension income. Slide 18 Some other rules that we need to be aware of with regards to scheme pensions are that; Most scheme members are allowed to commute some of their scheme pension for Pension Commencement Lump Sum. The amount available is normally dictated by the scheme rules, and is subject to HMRC restrictions. HMRC will not allow a PCLS; where the scheme pension entitlement is derived from a pension sharing order from an ex-spouse s pension that was already in payment, or, if the member has already used up all of their lifetime allowance, or, if the scheme pension is being purchased from a Drawdown fund. Once the PCLS has been paid out, the scheme rules will determine the frequency and size of any pension income, as well as the benefits available on death. If a scheme pension is being paid to a defined contribution scheme member, the member may be able to choose which features the scheme pension has. We ll look at the death benefits that can be built in later on. HMRC requires that scheme pensions are paid at least annually for the life of the member, and generally should never reduce in payment. The same will be true whether the scheme pension is paid by the scheme or an insurance company selected by the scheme administrator. Slide 19 Where a member of defined benefit scheme dies there are a variety of benefits that could be paid. A guarantee period may apply. The maximum period that can apply is 10 years from the inception of the member s benefits. There is no option for beneficiaries to commute the remaining instalments for cash. A dependants pension may be payable. This can be paid to spouses, civil partners or dependants of the deceased. We will look at HMRC classifications of dependants in a little more detail shortly. Dependants pensions are typically based on a percentage (for example 50%) of the member s accrued pension at the date of death. However rules from scheme to scheme will vary.
Alternatively, a defined benefit lump sum can be paid. If the member died before age 75 then there is no tax to pay on the lump sum. The lump sum must be paid within two years and a lifetime allowance test will be applied. Any excess benefits taken as a lump sum will be subject to a 55% tax charge. If death occurs after age 75, there is a flat 55% tax charge on the lump sum paid, but there are no time limits on when it can be paid, and a lifetime allowance test will not be applied. As an alternative to a defined benefit lump sum, the scheme could provide a pension protection lump sum at any member age. This is the capital value of the pension benefit at date of crystallisation, less the gross value of all payments made to the member up to the date of death. This lump sum is taxed at 55%, but no lifetime allowance test will apply. Slide 20 It is possible for scheme pensions to be paid from funds accrued in an occupational money purchase scheme. This is relatively rare, and any member taking a scheme pension from an occupational scheme must have been given the option to purchase an annuity on the open market first. Where a scheme pension has been purchased from an occupational scheme on death, it can offer; a guaranteed period, a dependants pension, or a pension protection lump sum. However it cannot offer a defined benefit lump sum. As mentioned earlier, a dependants pension may be payable on the death a member. Normally this will be a percentage of the member s accrued pension benefits at the date of death. With regards to dependants pensions, there is some further detail of which we need to be aware. Slide 21 A dependants pension can only be paid to those who HMRC define as being dependant. This list includes the member s spouse or civil partner, a child under the age 23 or a child who, in the opinion of the scheme administrator, was dependent on the member due to mental or physical impairment. Also classed as a dependant would be anyone who, in the opinion of the scheme administrator, was either financially dependent on the member, or was in a financial relationship of mutual dependence with the member. For example, a non-married partner, or anyone who was dependent on the member because of their physical or mental impairment. Slide 22 The dependants pension itself has some restraints set down by HMRC as follows. There can be no guarantee period, annuity protection, or further death benefits. The pension can t be surrendered or assigned, except under a pension-sharing order,
and is non-commutable unless it is trivial, which we ll cover later. It can, however, be transferred whilst in payment. The size of scheme dependants pension is without limit unless the member dies after 75. Then the scheme dependants pension limit is set at the amount of the member s scheme pension at death plus 5% of any tax-free cash drawn by the member when they started the pension. We will now move on from dependants pensions, to consider HMRC s rules around scheme pensions in payment. As mentioned earlier, scheme pensions cannot reduce in payment accept under prescribed circumstances. We will now consider some special circumstances when HMRC will allow a scheme pension in payment to reduce or even stop.