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Fixed points

There are many factors for advisers to consider on fixed protection

Matthew Stephens, Head of product and sales (technical), Prudential

The lifetime allowance reduces to £1.5m from April 6, 2012. A new form of protection fixed protection is available for those with funds over, or expected to be over, £1.5m at retirement.

This is widely acknowledged but how does FP work and what issues need to be considered? Individuals with FP currently have an LTA of £1.8m rather than £1.5m. If the standard LTA ever increases above £1.8m, that higher LTA will apply and FP just falls away.

Therefore, someone with a £1.7m fund at retirement, who has FP, will not suffer an LTA charge. Without FP, the charge would be £110,000 on the lump-sum excess, that is, £200,000 times 55 per cent.

Important criteria apply for an individual to benefit from FP, including:

  • No contributions to defined-contribution (DC) schemes can be paid from April 6, 2012 contracted-out rebates and contributions to life insurance policies started before April 6, 2006 are allowed although
  • Active membership of defined-benefit (DB) schemes will have to stop from April 6, 2012. To retain FP, benefit increases are only allowed by up to CPI inflation or the rate of increase for deferred members under the scheme rules at December 9, 2010
  • Applications must be with HMRC by April 5, 2012
  • Those with enhanced and/or primary protection cannot also have FP.

There are no exceptions to the application deadline. Recent court cases, including Scurfield v Revenue & Customs (2011) UKFTT 532 and Platt v Revenue & Customs (2011) UKFTT 606, have highlighted this.

Both cases involved late applications made to HMRC for protection from the LTA in connection with the A-Day changes in April 2006. HMRC refused the applications because they were submitted after the deadline.

In both cases, the taxpayer claimed there was a reasonable excuse for late submission. In both cases, the taxpayer lost. The cases are reminders that planning is crucial in order to prevent pension benefits suffering unwanted tax charges. There are a number of factors to consider when advising clients on FP.

The first test is whether the value of all pensions, including expected future contributions to DC schemes and DB accrual, is likely to exceed £1.5m at retirement.

The usual rules apply here in valuing pensions a 20:1 factor applied to DB schemes and fund value for DC.

If the answer is no, there is no need for FP. If the answer is yes, further analysis is needed. Test whether the expected value at retirement, with no further contributions or accrual, is likely to exceed £1.5m.

If it is, FP will be beneficial. Pension saving must stop but that is fine because it can be made to an alternative tax-efficient home from April 6, 2012.

If the expected value is below £1.8m, there will be a chance to make a top-up contribution by April 5, 2012 so that the expected value will become close to £1.8m. An application for FP can then be made.

The annual allowance has to be considered here. Contributions of more than £50,000 effectively get no tax relief but the three-year carry forward may allow for more than £50,000 with tax relief on the whole amount.

The availability of 50 per cent tax relief can help to create a perfect triumvirate here a chance to pay a big contribution before applying for FP, carry forward allowing more than £50,000 to be paid and up to 50 per cent of tax relief obtained.

The ability to make such contributions obviously requires sufficient relevant earnings as well as having the money available.

If the expected value with no further contributions or accrual is more than £1.8m, FP can still be useful but the excess over £1.8m will suffer an LTA tax charge.

Having said that, it may be that people with funds of more than £1.8m already have primary and/or enhanced protection. There are no changes to the way those protections operate. In particular, the factor used in calculating the higher, personal LTA for primary protection is applied to £1.8m and not £1.5m. For example, a £1.725m pre-A-Day fund has a factor of 0.15, the personal LTA is £2.07m (£1.8m x 1.15).

If the standard LTA ever increases above £1.8m, that higher LTA is used to calculate the personal LTA.

If the expected value at retirement with no further contributions or accrual is likely to be below £1.5m, this creates an issue.

Stopping pension savings means lost tax relief and retirement planning opportunities, so further judgements are needed:

  • How much lower than £1.5m is the value expected to be?
  • To what extent can the client make extra contributions now?

The key is maximising contributions and applying for FP by April 5, 2012, that is, making pension contributions so that the expected value is between £1.5m and £1.8m and preferably as close to £1.8m as possible. FP will then mean that no LTA charge arises.

Break it to fix it

There is also an opportunity here for those with enhanced protection a chance to contribute they thought they would never have.

If the value is expected to be below £1.8m, a top-up contribution can be made by April 5, 2012, enhanced protection revoked and an application made for FP.

Someone with both enhanced and primary protection will revert to primary on losing enhanced, so this approach will not work. It is only viable for those who have enhanced protection.

Pension rules can be taxing and FP is no exception. There are opportunities and potential pitfalls and clients will need advice more than ever to help make the right decisions to maximise their retirement planning opportunities. There is a lot to be done between now and April.


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