Do not let your clients lose out on valuable protection benefits.
As the industry careers towards the introduction of stakeholder pensions, you could be forgiven for thinking that every issue has been deb ated many times over. Not so. The chan ges to protection bene fits are a case in point and are worthy of further attention.
From April 6, 2001, a new integrated tax regime will apply to both stakeholder and personal pensions. The chan ges to protection benefits probably reflect the Inland Revenue's dissatisfaction with the current system, where there is a perception that tax relief on pension protection contributions is being unduly eroded by product providers' charges.
But what do the changes mean for pension clients?
Where a pension term insurance contract starts on or after April 6, 2001, the amount of premium which can be dir ec ted towards life cover will be limited to 10 per cent of the pension contributions made in the appropriate tax year.
Currently, a member and their employer may between them pay up to 5 per cent of net relevant earnings in the tax year to secure pen sion term insurance benefits.
Based on the maximum allowable personal pension contributions in the current tax year, the new life cover rules would lead to a 65 per cent reduction in the maximum permitted term insurance contribution for someone aged 35 or under.
How ever, any reduction in the level of pension term ins urance may only be of academic interest if there are no providers offering this cover from April 2001.
In view of the anticipated difficulties in making the new rules work in practice, many in the industry had expected pension term insurance to become a thing of the past. The prospect of linking term insurance payments to irregular pension contributions and the need to isolate the term contribution from the excess premium at the end of each tax year were far from appealing.
However, the Rev enue app ears to have climbed down by agreeing recently to check that planholders' premiums cover their term insurance contributions. Despite a favourable initial reaction, it remains to be seen how many providers will remain in the market.
In the meantime, pension term insurance contracts that already exist before April 6, 2001 can continue on the current more favourable basis. If they act now, planholders need not worry about what may or may not be on offer after April 6, 2001.
Waiver of contribution
Under the new tax regime, no part of a contribution to a defined-contribution scheme arranged after April 6, 2001 will be capable of being used for waiver of premium. The rules make it quite clear that alternative arrangements will have to be made.
Personal pension scheme guidance notes published by the Revenue state: “If a member wishes to make some provision for continuing their personal pension contributions during a period where they have lost some or all of their usual source of income, either through ill health or unemployment, they may do this through a policy arranged separately from the personal pension scheme.”
As a separate plan will be required after April 5, 2001, the contributions payable will not att ract income tax relief. In the event of a claim, however, the waiver benefits pay able will be treated as a pension contri bution paid net of basic-rate income tax and the sch eme manager will claim a tax ref und from the Revenue for the benefit of the investor. Thus, bene fits attract tax rel ief.
This obviously differs from the current practice, where waiver of premium contributions receive tax relief but the actual benefits under the contract are not grossed up in the pension plan.
As product providers do not appear to be rushing to offer waiver on a stand-alone basis after April 6, 2001, cli ents are now facing a very serious choice. They can wait and start their pension plan in the next tax year and try to arr ange some form of waiver cover then or they can act now and avoid any uncertainty.
The rules are quite clear in this respect. The personal pension scheme guidance notes further state: “Contracts already in existence before April 6, 2001 may continue this includes existing pension contracts at April 6, 2001 which include an option to take out waiver of contribution insurance, even where that option has not been exercised at that date, providing the option is exercisable by the member, not the scheme.”
Consequences for clients
So where does all this leave us? Clients who wish to maxi mise their pension term insurance contributions need to ensure they have a contract in place prior to April 6, 2001.
However, for those who do not take advantage of pension term insurance on the current basis and who find the new regime too restrictive, it will not necessarily be the end of the world. Provided they are prepared to arrange cover under a separate plan, there will be plenty of non-pension term insurance solutions available after April 2001.
Existing personal pension clients who already have wai ver – at least as an option under their plan – will be able to continue to benefit from waiver protection linked directly to their pension plan beyond April 6, 2001, with tax treatment on the current basis.
However, clients currently contemplating individual personal pension provision where waiver is an ess ential requirement need to act now. Only by commencing a personal pension plan prior to the introduction of the new integrated tax regime will they guarantee waiver cover as an integral part of their pension plan.
The pension industry is a past master at making the most of close-down sales but it is perhaps surprising that the wai ver opportunity has so far rec eived scant attention. With stakeholder just round the corner, now is the time to ensure clients' pension protection arrangements are not caught out by the new regulations.