Pension simplification started in December 2002 with the publication of a green paper from the Inland Revenue entitled Simplifying the Taxation of Pensions – Increasing Choice and Flexibility for All. The plans became reality on 6 April 2006 and the rest, as they say, is history.
The industry was offered transitional protection in the form of primary protection and enhanced protection with respect to fund values which now exceed the maximum permitted when the move was made from the eight previous pension regimes to the new, simplified regime. When the lifetime allowance dropped to £1.5m, the industry was presented with fixed protection 2012.
Now more than ever clients with complex pension affairs need advisers with the expertise to deal with the decisions that need to be made
The lifetime allowance is reducing again to £1.25m on 6 April 2014 and we have more transitional protection to come in the form of fixed protection 2014 and individual protection 2014. In the not too distant future, you could be faced with a new client that has one, or a mixture of, primary protection, enhanced protection, fixed protection 2012, fixed protection 2014 or individual protection 2014. Some or all of these protections will have a bearing on the individual’s maximum fund value, their death benefits, their pension commencement lump sum and their ability to transfer without losing their protected pension commencement lump sum.
Fixed Protection 2014
Fixed protection 2014 will not be available if the client already has enhanced, primary or fixed protection 2012. As with fixed protection 2012, it will allow individuals to avoid the drop in the lifetime allowance and continue with the previous lifetime allowance level – this time £1.5m. Once benefits exceed £1.5m they will be liable to a lifetime allowance charge.
However, it can be lost if the client has relevant benefit accrual. This means:
- For a defined contribution scheme, a pension contribution is made to the scheme by or on behalf of the individual, including an employer contribution and any auto-enrolment contributions. As with enhanced protection and fixed protection 2012, opt-out within one month will be essential.
- For a defined benefit or a cash balance scheme, benefits are accrued above the permitted relevant percentage. This is either an annual rate as specified in the scheme rules as at 11 December 2012 or the annual rate of consumer price index as at the previous September, where no rate is specified in the rules.
Fixed protection 2014 can also be lost by making or receiving an impermissible transfer. The signed and completed paperwork will need to be with HMRC by 5 April 2014 at the latest to make a successful application. It is anticipated that the application will be available from the HMRC website once the Finance Bill 2013 receives Royal Assent.
HMRC is consulting on individual protection 2014 until 2 September 2013. However, the consultation is focused purely on the detail and implementation, not whether the protection should be introduced and whether the limits are appropriate.
Some of the details so far:
- Individual protection 2014 proposes a personalised lifetime allowance based on pension savings at 5 April 2014, subject to a maximum £1.5m.
- An individual will need pension savings of at least £1.25m as at 5 April 2014 to qualify.
- Contributions can be continued after 5 April 2014 without losing individual protection. Individual protection 14 may, therefore, be more applicable for both deferred and active members of defined benefit schemes.
- An individual could apply for both fixed protection 2014 and individual protection 2014, with fixed protection 2014 taking precedence. Individual protection 14 will not be available if the client already has enhanced or primary protection.
- Individuals will have until 5 April 2017 to submit their applications for individual protection 2014. This gives the industry some breathing space as there will be a requirement to value pension assets as at 5 April 2014.
What does this mean in reality? A client could potentially have a fund of £1.7m, with both fixed protection 2014 and individual protection 2014 offering a maximum protected fund of £1.5m.
Under fixed protection 2014, no more contributions will be permitted and under individual protection 2014 protection will be retained.
In this case, applying for individual protection 2014 would seem sensible – if there is a dip in fund values, clients could contribute again to rebuild their fund back to £1.5m.
A client may have a fund of £1.3m at 5 April 2014 – this amount would be the maximum protected fund for individual protection 2014 purposes.
However, if the client decided they did not want to contribute any more, they could apply for fixed protection 2014 and look to grow their pension affairs to £1.5m with no tax charge. Or go for both.
Part of the Association of British Insurers’ response in April 2003 to the original A-Day green paper was that simplification will make it easier for consumers to understand pensions and the elimination of the different tax treatment of different types of pension should cut the cost of advice.
This was probably a reasonable response from the ABI at the time, but now more than ever clients with complex pension affairs need advisers with the breadth of knowledge and expertise to deal with the decisions that need to be made.
As with the approach to A-Day, some serious number crunching is required to map out the options and what they represent for each individual.
John Haley is technical consultant at Axa Wealth