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Clear as crystal

It is common that clients facing retirement may consider consolidating their pension rights before taking benefits. However, if the client’s arrangements include a protected pre-A-Day pension commencement lump sum, there is a danger that by consolidating the funds before benefit crystallisation, the client could reduce the amount available.

Following pension simplification, clients can protect pre-A-Day PCLS rights of more than 25 per cent of the A-Day fund value. This, combined with changes in the Finance Act 2008, means that clients should consider how to best maximise the amount of PCLS they can take.

A client in this situation is entitled to a PCLS equal to the sum of:

a: Any pre-A-Day protected PCLS increased by the increase in the lifetime allowance from A-Day until the benefit crystallisation dateb: 25 per cent of the difference between the total fund value on benefit crystallisation and the A-Day fund value relating to the pro- tected PCLS entitlement increased by the increase in the lifetime allowance.

Consider, for example, a client who plans to fund retirement using income withdrawal from two registered pension scheme funds. The first fund is a pre-A-Day executive pension plan with an A-Day value of £150,000 and a protected PCLS of £70,000. Due to market conditions, the fund is worth £120,000. The client also has a separate personal pension fund worth £100,000 with no protected PCLS.

The client would have an available PCLS, if consolidation does not take place, of £102,000. This is comprised of £77,000 (that is, £70,000 plus the 10 per cent increase in the lifetime allowance since A-Day) from the EPP scheme and £25,000 from the personal pension fund.

If the client makes a block transfer of his EPP fund into a new registered scheme and consolidates his personal pension fund into the same scheme before income withdrawal is taken, the maximum PCLS will reduce to £90,750.

The current legislation will allow the client to retain the protected PCLS entitlement from the EPP scheme on transfer. However, the under-performance of the A-Day fund against the increase in the lifetime allowance effectively reduces the PCLS from the personal pension fund.

If the registered scheme that the funds are trans-ferring to has maximum flexibility in its income withdrawal structure, the problem can be overcome by a two-stage benefit crystallisation process. The client can take the protected PCLS under the block transfer, start income withdrawals and then designate the personal pension fund into the same arrangement as an additional pension fund.

This process ensures the client gets the same PCLS as would be enjoyed by retaining separate arrangements but has a consolidated retirement income fund from which to take income benefits.

For clients who are pre-retirement but who have protected PCLS rights in a scheme, the advice process is slightly different. These clients will need to decide whether to:

i: Continue making contributions to the same registered scheme after A-Day and hope that the investment performance they achieve on their A-Day fund outperforms the increase in the lifetime allowance over the long term orii: Segregate post-A-Day funding from the pre-A-Day protected tax-free cash fund and when they crystallise their benefits, review the actual performance achieved.

If the investment performance on the pre-A-Day fund has outperformed the increase in the lifetime allowance, consolidating all the funds into one arrangement before the retirement process begins will be positive.

If the investment performance on the pre-A-Day fund has underperformed the increase in the lifetime allowance, retaining separate arrangements will maximise the PCLS available to the client. Alternatively, the client’s benefit crystallisation could take a two-stage approach to avoid any loss.

Colin Jelley is head of tax and financial planning at Skandia

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