Pensions Tax Regime

Chapter 2 of FA2

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The Lifetime Allowance

  • Each person is allowed to build up pension entitlement in a tax advantaged way
  • Lifetime allowance is total limit for savings in pensions
  • Lifetime allowance for 2011/12 is £1.8 million
  • Benefits taken in excess of LTA will attract a tax charge
  • 55% lump sums
  • 25% if taken as an income
  • Transitional provisions in place for people who built up benefits close to LTA prior to A Day
  • From April 6th 2012 the LTA will reduce to £1.5 million


  • No overall limit to amount that can be contributed to a pension in any year
  • Is a limit on how much attracts tax relief
  • Individuals can make contributions to the greater of £3,600 or 100% or relevant UK earnings
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Annual Allowance

  • There is an annual limit on how much a person can contribute to a pension
  • 2010/11 limit is £255,000
  • If limit breached excess would be subject to a 40% tax charge
  • From 6th April 2011 the annual allowance decreased to £50,000
  • From 6th April 2011 instead of the whole of the increase in the value of pension benefits in excess of the annual allowance being taxed at 40%, it will be taxed at the individuals marginal rate of tax.
  • It will also be possible to carry forward unused annual allowace for up to 3 tax years.
  • In MP schemes the annual allowace is the amount of contributions paid in over the tax year. In DB scheme calculation is more complex.
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Taking Benefits

  • Initially a person was able to take their benefits any time between ages 50 -74
  • From April 2010 earliest age was increased to 55
  • In emergency budget of 22nd June 2010 government announced that the requirement to buy an annuity by 75 would cease
  • The rule that applied at age 75 would now apply from age 77

Retirement Benefits

  • Retirement benefits can now be: A lifetime Annuity, A scheme pension or a drawdown pension
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  • 25% of total value of pension benefits can be taken as a tax free lump sum.
  • Usually this would be taken at the same time as benefits.
  • Before A-Day some people could take more than 255 of the fund as a TFLC.
  • Transitional protection in place for those in that position.

Benefits at Death Before Retirement

  • On death before retirement a lump sum can be paid. If this exceeds the lifetime allowance then a 55% tax charge will be applied.
  • This will be taxed as income on the recipient

Investment Restrictions

  • Registered schemes cannot make loans to members of schemes within the new tax rules.
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Registration Procedure for schemes

  • To benefit from tax advantages of the new tax regime a scheme has to be registered with HMRC.
  • Scheme administrator registers the scheme via internet with HMRC
  • All schemes in place prior to A Day were automatically registered as eligible schemes.

Pension Scheme Providers

  • A pension scheme that applies for HMRC registration must be established by one of the following:
  • An Insurance Company
  • A Unit trust scheme manager
  • An Operator, trustee or depository of a recognised EEA collective investment scheme
  • An authorised OEIC.
  • A building society
  • A bank
  • An employer
  • An EEA investment portfolio manager.
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Overriding rules for existing schemes

  • HMRC has produced regulations that modify the rules of all schemes set up before A Day
  • Allow schemes to choose whether to make payments that are required by scheme rules, but are unauthorised payments under the Finance Act 2004
  • Keep the effect of indexation of the earnings cap. Without this, occupational schemes could find that the pension rights for highly paid employees who are subject to the 1989 regiime would rise to relect their actual( as apposed to their capped) remuneration because the earnings cap will dissapear.
  • Provide a rule for schemes to follow where their current rules preclude payments that would prejudice HMRC approval
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  • There are six reasons why a scheme can be de-registered by HMRC
  • 1. The total amounts of payments by the scheme that are not authorised payments in any twelve month period is 25% or more of the value of the schemes fund
  • 2. The scheme administrator fails to pay a "substantial" amount of tax due, or interest on it.
  • 3. The scheme administrator does not provide info required by HMRC and the failure is significant
  • 4. Info provided is materially incorrect.
  • 5. A false declaration is made in the application for scheme registration
  • 6. The scheme ceases to have a scheme administrator
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  • Must be : A resident in the UK OR a Crown servant, or the spouse of a Crown servant, serving overseas.

Once a person is a member of a registered pension scheme they can pay contributions in a tax year provided one of the following conditions is met:

  • They are resident in the UK at some time during the five tax years before the year in which the contribution is paid
  • They have relevant UK earnings which are chargeable to tax
  • They, or their spouse, have earnings for the tax year from overseas Crown employment.

A person who meets at least one of these conditions is known as a Relevant UK Individual.

A person who does not meet the eligibility conditions can make unlimited contributions to a pension but will not receive tax relief on the contributions.

Over 75's do no receive tax relief on contributions

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The Lifetime and Annual Allowance

  • The standard Lifetime allowance is set by the treasury.
  • The lifetime allowance remains at £1.8 million for 2011/12
  • The lifetime allowance will reduce to £1.5 million in 2012/13 (April 2012)

Enhanced Lifetime allowances

  • The SLA may be increased in a number of circumstances.
  • Pension credit before 6 April 2006 or from when a pension in payment before 5th April 2006 is shared.
  • There has been a transfer in from a QROPS scheme
  • Primary protection applies
  • Enhanced protection applies

In addition new transitional rules have been put in place to protect against the LTA reducing back down to £1.5 million in 2012/13

  • Underpinned LTA
  • Fixed Protection
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The Annual Allowance

  • Was initially £215,000 for 06/07
  • £255,000 in 2010/11
  • From 6th April 2011 set to £50,000

Total Pension Input - this is the increase in value of someones pension benefits.

Pension Input Period

  • MP scheme - starts when first contribution paid
  • Other schemes - starts when members rights begin to accrue
  • It does not have to be a period of 12 months but can end on any earlier convenient date. The date may be chosen by scheme administrator or member (excl DB schemes where decision lies with Scheme administrator)
  • The pension inpute may not be the same as the tax year.
  • From 6th April 2011 the rules to determine the pension input period were altered as follows:
  • MP - starts when the first contribution is paid and ends on the later of
  • a nominated date within a year of the start date
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The Annual Allowance (2)

  • if there is no nominated date the 5 April immediately following the start date.

Subsequent Pension input periods now end on:

  • A nominated date during the tax year following the tax year in which the previous pension input period ended, otherwise:
  • the anniversary date of the previous pension input period.
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  • Active Members : Broadly increases in the capital value of the members pension and tax free cash benefits are taken into account, after the opening value is revalued in line with CPI. The value of death benefits is ignored.
  • Deferred Members: The is no pension input amount, provided benefits do not increase by more than CPI, or with any provision in the scheme rules as at 14 October 2010.

Cash balance arrangements

  • In these it is the difference in the value of the members rights between the beginning and end of the scheme year concerned, but only to the extent that it exceeds the greater the increase in the CPI or any privision in the scheme rules at 14th October 2010.

Excluded from TPI

  • DB growth in any year where the member wholly vests all the benefits in that scheme were ignored. However, this was changed from 6th April 2011 and from then the onl instances that are ignored is crystallisation on the grounds of:
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  • Death
  • Serious ill health ( where life expectancy is less than one year)
  • Sever ill health (where the person is unlikely to ever be able to carry out any work again, in any capacity)
  •  Personal contributions above 100% of the personal relevant UK earnings that do not receive tax relief are ignored.
  • Contracted out reabtes paid by HMRC to an APP etc
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Annual Allowance - calculation for DB arrangements

  • Prior to October 2010 the accrued pension benefits were valued on a 10:1 basis.
  • From 14th October 2010 the accrued benefits are now valued on a 16:1 basis.
  • Any increase in the lump sum over the pension input period is taken at face value.

Transitional rules for tax year 2011/12

As pension input periods often do not cover only one tax year, and it was possible for people to have built up additional pension rights pritoer to 14th October 2010, which could have been attributable to the tax year 2011/12, transitional rules were made.

For the 2011/12 tax year the maximum pension input amount allowed under the transitional rules is:

£255,000 for the whole of the pension input period including

a maximum of £50,000 made after 13 October 2010

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Annual Allowance - Calc for DB arrangements contin

  • In DB schemes the calculation is in two parts
  • 1: part up to 13th October 2010
  • 2. part attributable to the remainder of the period.
  • Calculations need two pensionable earnings amounts: on for 13th October 2010 and one for the last day of the period.
  • Calculation for period up to 14 Oct is accured using 10:1 factor
  • Period after 14 October is 16:1 factor
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Calculating the Lifetime Allowance

  • Benefit Crystallisation events
  • Funds need to be tested against LTA when BCE occurs
  • 9 BCE
  • If in income drawdown before A-Day, provided no new assets are designrated into the existing drawdown pension fund, there will be no BCE. This means that neither the purchase of an annuity nor reaching age 75 will be  BCE provided income withdrawal started by 5 April 2006.
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The lifetime allowance (where benefits start after

  • If benefits worth £600,000 are drawn in 2006/07, and then further benefits are drawn in 2011/12, the available lifetime allowance is calculated as follows:
  • 2006/07 SLA : £1,500,000
  • 2011/12 SLA : £1,800,000
  • Less revalued previously used allowance: £600,000 x 1.8/1.5 = £720,000
  • Remaining lifetime allowances £1,080,000
  • This approach is the same as saying 40% of the lifetime allowance was used in 2006/07 and therefore 60% remains available.

Lifetime Allowance : Payments in force at A Day

  • If benefits are in payment before A day a standard 25:1 valuation factor is used to test the LTA for pre A day income benefits.
  • If drawdown is started before a day the 25:1 factor is applied to the maximum permitted withdrawal calculated at the last review.
  • If there has not yet been a review the factor is based on the maximum permitted withdrawal at commencement.
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Lifetime allowance charge

  • When a BCE occurs the total value of an individuals pension rights in payment plus those being crystallised could exceed their lifetime allowance. In these circumstances a LTA charge applies.
  • 55% lump sum
  • 25% income
  • The chargeable amount does not count as income for the purposes of income tax and it cannot therefore be reduced by any allowances, reliefs of losses.

Paying the Lifetime allowance charge

  • Scheme admin and the member are equally liable to pay any LTA charge.
  • Scheme admin likely to reduce members benefits
  • If scheme funds were used the amount of the LTA charge paid by the scheme is treated as a further chargeable amount and will thus attract additional tax.
  • If chargeable amount arises on the members death the responsibility for paying a 55% tax charge rests with the recipients of the lump sum death benefits.
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Annual allowance charge

  • If TPI amount for an individual during a tax year exceeded the annual allowance, they were subject to an annual allowance charge on the excess.
  • This charge was 40% of the excess.

New Annual Allowance charge

  • From 6th April 2011 the excess is taxed as if it is additional income and is subject to tax at the appropriate rate.
  • 40%,50% etc
  • From 2011/12 it is possible to carry forward unused annual allowance from the previous 3 tax years to the current tax year.
  • Annual allowance can only be carried forward from a tax year if the person was the member of a registered pension scheme during the year in question, although no contributions need have been made during that year.
  • For tax years from 2008/09 to 2010/11 it is assumed that the annual allowance in each year was £50,000
  • Unused annual allowance carried forward from earlier tax years can only be used once the current annual allowance has been fully used. The first carried forward unused annual allowance to be used is the oldest unused allowance.
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Paying the annual allowance charge

  • The annual allowance charge is levied on the individual
  • It is ordinarily collected under self assessment
  • Where the charge is over £2,000 schemes will be required to operate a facility to allow members to meet the charge from their pension benefits.

Tax treatment

  • Annual allowance charge is a charge to income tax
  • Employer contributions in excees of the annual allowance still qualify from tax relief as an allowable business expense
  • Tax relief is still available to individuals whose personal contributions are above the annual allowance, provided they do not exceed 100% of their earnings for the year.
  • Like the LTA charge the annual allowance charge is designed to claw back income tax and NIC relief.
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Tax Treatment

  • Contributions
  • Tax relief at source: As general rule all pension arrangements have to operate relief at source for personal contributions i.e contributions paid net of basic rate income tax.

Net pay

Contributions deducted from gross pay for income tax (not NIC) purposes.

Contributions to retirement annuities can continue to be paid gross

Members of public service pension schemes who are not employyes e.g many doctors, dentists will be able to claim tax relief on gross contributions through their self assessment returns if the relief is not granted in any other way.

Where tax relief at source operates, any higher rate relieft must be reclaimed through self assessment

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Tax Treatment - Employer contributions

  • Get tax relief without limited  (wholly and exclusively test)
  • Relief is given in the accounting period in which the contribution is paid, except a large single contribution is subject to spreading for tax relief purposes.
  • An employer contribution will be spread if: It exceeds 210% of the contribution paid in the previous chargeable period or the amount of the exccess (defined as the amount paid over and above 110% of the contribution paid in the previous chargeable period) is £500,000 or more.
  • Will not be spread if: the cost of living rises for pensioner members or the future service liability for new scheme entrants
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Tax Sanctions

  • Unauthorised payments charge : 40% recipient
  • Unauthorised payments surcharge :(where the value of unathorised payments in a year is 25% or more of the fund value) 15%.
  • Scheme sanction charge : Payable by scheme administrator if they have made 1 chargeable payment in any one year. Charge is 40% but can be reduced by the amount of any unauthorised payment paid by the member.
  • De- registration charge :40% of the total value of the funds held by the scheme immediately before its registration is withdrawn from HMRC. Payable by the scheme administrator.
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Reporting Requirements

  • HMRC has implemented a single coherent reporting regime
  • For members reporting will generally be through self assessment return

The scheme member is responsible for making the following reports to HMRC

  • Self assessment tax return
  • Crystallising benefits
  • Registering transitional protection
  • Transfer where enhanced protection applies

The scheme admistrator is responsible for the tax affairs of a registerered scheme in the first instance. If there is no scheme admin or the scheme admin has defaulted on their liability the following priority order applies to determine the next responsible party:

  • Any UK resident trustee or trustees of the scheme
  • Any person who controls the management of the scheme
  • Any person who established the scheme, or their successor
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Reporting Requirements (2)

  • Any employer whose employees are or will be provided with benefits under the scheme, if the scheme is an occupational scheme.
  • Any trustee or trustees of the scheme who are not resident in the UK.

In some circumstances the liabilities of the scheme administrator can be passed onto scheme members.

All returns and payments by a registered scheme must be made electronically.

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Reportable Events

  • Event Report
  • Scheme admin to provide to HMRC no later than 31st Jan following tax year in which the event occured
  • Unauthorised payments
  • Death payment more than 50% of LTA
  • Benefits paid before NRA to a member who is or was: a director or the sponsoring employer.
  • Serious ill health lump sum to director/connected to sponsoring employer
  • Suspension of ill health penson to a member because ill health condition no longer met.
  • Member crystallised benefits and: amount exceeds LTA,member relied on enhanced/transitional protection to reduce or eliminate their LTA liability
  • Scheme pays retirement lump sum in excess of 100,000 to a member and this represents more than 25% of the members pensions rights but less than 25% of the SLA
  • Transfer to a QROPS
  • Scheme is wound up
  • Person who registered scheme ceasing to control it
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Reportable Events (2)

  • A member of a scheme gains or loses control of scheme assets
  • The scheme rules are amended to allow an unauthorised payment
  • Changes to the rules of a single scheme which before A day was treated by HMRC as two or more schemes
  • The legal structure of the scheme changes
  • Number of members in scheme falls to a lower band
  • Scheme administrator is terminated, the former admin must notify HMRC of the date of the termination within 30 ays of that date
  • If a scheme admin make a lump sum death benefit payment to an individual, info about the payment and recipient must be supplied withint two months of any request from HMRC
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Scheme Tax returns

  • Self assessment return
  • Pension scheme return
  • A scheme charge accounting form
  • Info to the members on benefits in kind
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Information to scheme members

  • The scheme administrator must supply the following info to scheme members:
  • Where TPI amount exceeds the annual allownace a pension saving statement must be provided which gives details of the pension input amounts and the annual allowance for the current year and each of the previous 3 years.
  • Tax deducted and unauthorised payments
  • A copy of any return sent to HMRC for tax deduceted for the member
  • Details of the amount, nature and date of unauthorised payments made to member
  • Info must be provided to the member no later than 7 July in the tax year following the tax year to which the return relates or in which the unauthorised payment was made.
  • Pensions in payment  - crystallised LTA
  • At least once each tax year the scheme admin must provide each memeber who receives a pension with a statement of total LTA used.
  • Where insurance company privides OMO within 3 months of annuity purchase, the scheme admin must provide the insuruer with details of the amounts crystallised by all BCEs under the scheme.
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Summary of Chapter 2

  • Schemes need to be registered to benefit from the tax advantages set out in the Finance Act 2004
  • Existing schemes at A day were deemed to be registered unless they opted out of the new regime
  • New schemes register online
  • HMRC has the power to de register schemes
  • The lifetime allowance was initially set at £1.5 million, rose to £1.8 million in 2010 and reduces to £1.5 million in 2012
  • Increases are allowed for pension credits, transfers in from QROPS and rights to benefits at A day worth more than allowed under the new regime
  • The annual allowance was initially set at £215,000, rose to £255,000 in 2010 and reduced to £50,000 from 2011.
  • Takes account of increase in value of pension benefits over a period normally a year, known as a pension input period
  • In MP arrangements the amount is the total of employee contributions
  • In DB arragements takes account of the increase in value of pension benefits
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Summary 2 (2)

  • The lifetime allowance
  • Amount available is reduced on a BCE
  • BCE are when e.g a pension or cash sum is paid
  • Scheme pensions are valued using a factor of 20
  • Lifetime annuities are valued using the amount used to buy the annuity
  • Lump sums are valued by value of lump sum
  • Pension in payment before A day are valued using a factor of 25
  • Benefits above the LTA can be paid after deduction of a charge
  • If benefits taken as lump sum then its 55%
  • Benefits taken as income then 25% and income tax payable on benefits

Annual Allowance charge

  • Increase in the value of a persons benefits are subject to a charge
  • The charge is collected through the income tax system from the scheme member
  • The charge is the individuals marginal rate of income tax applied to the value of benefits above the LTA
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Summary 3

Tax Treatment

Most members can get tax relief on contributions at their highest rate

Where the scheme operates on the net pay basis tax relief is given immediately

Wherre the scheme operates on the relief at source basis tax relief is given at the basic rate immediately, but the higher tax is reclaimed from HMRC

Employer contributions are deductable as a business expense, so tax relief is given on them

If the employer contribution is a single payment tax relief may be spread over several years.

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