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Take it to the limit

I understand there is to be a new lifetime limit that will replace all the old funding rules for pensions. As my £1.3m pension fund falls below the proposed limit, I assume there is nothing I need to worry about. Am I correct in thinking this?

When the Finance Bill which includes the changes to pension legislation is introduced, it would be reasonable to assume that the changes are more likely to enhance the income of the Treasury rather than that of the individuals entitled to pension benefits. Therefore, everyone who has an existing pension arrangement needs to assess the relevance of the changes in relation to their personal situation. The recent Inland Revenue publication BN39 outlines the proposed changes and is arguably inappropriately named Simplification of the Taxation of Pension Schemes. There is little doubt that some streamlining has long been required of the existing eight pension regimes. However, simplification carries its own complications. There are 132 clauses and seven schedules detailing the changes to be brought about. As if to highlight just how complicated the simplification rules are, there are also 295 pages of explanatory notes.

The short answer to your question is it is not reasonable to assume that, because your current fund falls below the lifetime limit, you need to take no action. I can take this a stage further and say action may be required even if you never expect your pension fund to exceed the relevant lifetime limit in any year.

One area that may be seriously affected by the implementation of the new legis-lation is the amount of tax-free cash you can take from your pension. Some earlier pension regimes permitted substantial amounts of tax-free cash benefits for higher earners and this significant advantage may well apply to you. If you fail to take appropriate action, you may find that your right to tax-free cash is substantially reduced.

The amount and form of benefits accrued to date needs to be balanced against the need or desire to continue funding to provide additional pension benefits for yourself and your spouse. It is important that your personal preferences are clearly identified regarding the manner in which you wish to receive benefits as the Finance Bill will severely restrict such options in the future.

A higher level of tax-free cash permitted under the old rules may be protected through transitional protection. Individuals who have unvested pension rights with such enhanced benefits must register with the Inland Revenue that they wish to safeguard these rights. Failure to register rights within three years of A-day on April 6, 2006 will mean that no protection will be granted. Two types of protection are proposed:

Primary protection. This is where protection is given to the value of the pre-A-day pension rights and benefits in excess of £1.5m. The pre-A-day value will be indexed in parallel with the indexation of the statutory lifetime allowance up to the date that benefits are taken.

Enhanced protection. This is available to individuals who cease active membership of approved pension schemes before A-Day. Anyone who subsequently contributes to an arrangement after applying for enhanced protection will lose that protection and will be liable to a fine of up to £3,000 if they fail to inform the Inland Revenue.

With a current fund value of £1.3m, you are close to the initial lifetime allowance of £1.5m. As a result, you may wish to protect any enhanced benefits held in your existing scheme. The choice of prim-ary protection (only available if the fund value exceeds £1.5m on A-Day) or enhanced protection depends on which element of benefits you wish to protect and whether or not you wish to provide additional benefits in the future.

As you can now no doubt appreciate, there are definitely things for you to worry about. This is certainly one area that will increasingly become a topic of media attention and certainly one which anyone with a modest pension fund should make the time to discuss with a suitably knowledgeable IFA.

At this stage, it has to be accepted there is no immediate urgency. The Finance Bill has not been finalised, so many advisers will not be up to scratch on the new rules but it is imperative that all options are explored before A-Day. The Treasury has recently announced that the £1.5m limit could be raised to £2.5m in certain cases for DC members taking their fund as income but we are awaiting full details.

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