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Pensions
Countdown
to Pension Simplification – 6th April 2006
A Bulletin for the clients of Charter
Partnership
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In the 2004 Budget,
the Chancellor confirmed that a new simplified pension
regime would be implemented from 6 th April 2006 , “A
Day”.
This single regime will replace
the current eight tax regimes governing pensions
and the changes will affect individuals in occupational
and personal pensions and employers alike.
Those likely to be most affected are high earners
and those who have already or are likely to build up
large pension pots, but there are changes which to
a greater or lesser extent affect any one of us.
The purpose of this briefing note
is to highlight very briefly the major changes and
invite clients of Charter
Partnership to review their existing
pension arrangements well before 6 th
April 2006. |
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| Summary of the main measures |
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There will be
a single “annual
allowance” which can be contributed to pensions,
above which they are not eligible for tax relief.
A member enjoying employer pension contributions
in excess of the annual allowance (or the equivalent
in final salary benefits increases) will be subject
to a tax charge of 40% on the excess
Initially
the annual allowance will be £215,000. |
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Current benefit limits will be replaced
by a single “lifetime allowance” for the
amount of pension savings that can benefit from tax relief.
Initially the lifetime
allowance will be £1.5
million.
Benefits in
excess of the lifetime allowance
will be subject to a tax
charge of 25% if taken as
pension, or 55% if taken
as cash.
Transitional protection will
be available for those with large pension funds
at 6 th April 2006. |
| Both allowances
will increase each year between 2006/7 and 2010/11. |
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Personal contributions will receive tax
relief on the higher of £3,600 and 100% of UK earnings.
There is no limit on an employer’s contribution to an employee’s
pension. Tax relief is at the discretion of the inspector of taxes. Provided
that the contribution meets the general rules on deductions, it will be allowable.
There will be a spread of relief on contributions in excess of £500,000. |
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Minimum pension age will increase from
50 to 55 on 6 th April 2010 .
Members of occupational pension schemes will be able to draw benefits without
the need to retire.
The annual allowance will not apply in the year in which benefits are vested
in full. |
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Pension saving must be converted as now
to an income stream by age 75.
There will be a single rule for the calculation of the tax free cash – 25%
of the fund (or value of benefits taken) subject to a maximum of 25% of the remaining
lifetime allowance. |
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| The new rules introduce four types of
pension; scheme pension, lifetime annuity,
unsecured pension and alternatively secured pension. The
type of pension that may be paid depends upon the scheme
type and the age of the member. |
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| Scheme pension and lifetime
annuity will generally be bought out
with an insurance company, although the scheme pension
can be paid direct from a scheme’s assets if
it has more than 50 members. |
Unsecured pension allows
for income to be paid out of a scheme’s assets
rather than annuity purchase (similar to current pension
fund draw down) and is subject to the following limits:
- Minimum income is zero
- Maximum is same as current Draw Down limit
- Maximum income reviewed every five years
Unsecured pension also includes a new “short term” annuity payable
for no more than five years. |
| Alternatively secured pension is
available for members on their 75 th birthday and has
the same main features as unsecured pension in terms
of income provision. The key difference is that the maximum
income is 70% rather than 120% of the single life annuity
rate. |
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On death before taking benefits ,
the full fund value can be paid tax free up to the lifetime
allowance.
On death after vesting but before age 75, the benefits
will depend on the type of pension being taken. As long as a pension has not
been secured, the full value of the fund will be available as a lump sum subject
to a 35% tax charge.
Where a member is taking benefits through either of the secured routes (lifetime
annuity or secured pension) arrangements can be made for a lump sum to be paid
on death. For lifetime annuities, the maximum would be the annuity purchase price
less the annuity instalments taken. This is a new concept which may overcome
some of the objections to annuity purchase.
On death after age 75, if
alternatively secured pension benefits are being provided, any remaining funds
on death must be used to provide dependants’ pensions. If there are no
dependants, the scheme may;
- reallocate funds to other scheme members
- refund it to the sponsoring employer, if there is one, net of 35% tax
- pay to a registered charity
Lump sums payable on death will continue to be free of inheritance tax in most
circumstances. |
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Currently, self invested
pensions such as SSASs and SIPPs can invest only in “allowable” investments.
These are almost exclusively commercial in nature and
any dealings between scheme members and the scheme
are prohibited.
It was originally the intention that
these investment powers would be widened to include,
most notably, residential property. However, in his
pre-Budget speech in November last year, Gordon Brown
announced a Government U turn “to prevent
the potential abuse of these rules by people directing
the scheme to acquire assets from which a personal
benefit will be derived, rather than directing the
acquisition of those assets and the associated generous
tax reliefs for their intended purpose of building
a fund that will ensure a secure income in retirement……”
Although the government has highlighted
property as their main concern, the anti-avoidance
measures apply to other assets including fine wines,
classic cars and works of art.
Scheme borrowing will be restricted
to 50% of the value of the gross value of the assets
at the time of borrowing. This is likely to be less
than current limits for either SSASs or SIPPs.
Loans to employers will be limited
to 50% of the gross scheme value.
Loans to members will be unauthorised
payments and subject to a penal tax charge.
Investment in any one sponsoring employer’s shares will be limited to
5% of scheme assets, with a total limit of 20% of scheme assets if there is
more than one employer. |
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Members
who have built up pension rights before A Day in excess
of the lifetime allowance may claim protection of those
rights, reducing or eliminating their liability to
pay a tax charge on excessive benefits. Central to
the introduction of the new pension rules is the valuation
of member’s pension rights at
A Day. The pension rights must include undrawn pensions
and pension benefits in payment and there are special
rules for valuing final salary benefits, annuities and
benefits in Draw Down.
There are two types of protection:
- Primary protection is
only available for those with pension rights in excess of £1.5
million (the lifetime allowance) at 5 th April 2006 .
It effectively gives the member a higher lifetime allowance than the
standard, which equates to the A Day value of the member’s pension
rights. This will then be indexed in line with the lifetime allowance
indexation. Further contributions to pensions can be made.
- Enhanced protection is available
to anyone regardless of their pension rights at
A Day. It provides complete freedom from the lifetime
allowance provided the member ceases active membership
of all pension arrangements before A Day.
For money
purchase schemes (Executive and Personal Pensions
for example) this means that no further contributions
can be paid. Special rules apply to final salary
schemes.
Transitional protection applies after A Day irrespective of whether
benefits are transferred from one scheme to another.
Tax free cash protection
In addition to the primary and enhanced protection of tax
free cash, further protection is available where total benefits do not
exceed the lifetime allowance but where tax free cash exceeds
25% of the fund value (most
often applying to Director’s
Pension Arrangements). The cash entitlement at A Day will be indexed in
line with the lifetime allowance (irrespective of the final fund value
when benefits are taken). Cash of 25% of the fund can be paid in respect
of post A Day contributions.
This protection is lost if benefits are transferred to another
pension provider after A Day.
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| Every care has been taken to ensure the
accuracy of this briefing note. It is intended only as
a brief guide to the proposed legislation and not as
individual advice. The law and Inland Revenue practice
are subject to change. |
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