Tax-free cash before and after A-Day
The question usually relates to people on A-Day who have funds already in an Executive Pension Plan (an EPP), or a Section 32 contract (usually referred to as a S.32 plan to befuddle the non-initiates out there). Many people with such pension arrangements are currently entitled to more than 25% of the fund value as a tax-free cash sum at retirement as these schemes are subject to occupational scheme rules, and the question is “Should they be concerned that after A-Day all pension schemes will be limited to 25% tax-free cash?”, or some variation of that. The short answer is “No”, but a slightly longer version follows:
My understanding is that the Inland Revenue guys who put all this stuff together did consider requiring people with higher Tax-Free Cash entitlements at A-Day to register them, but decided against that because it would, quite frankly, have been an administrative nightmare all around. So where it’ s been left at is that anyone who is entitled to more than 25% Tax-Free Cash from a pre A-Day pension arrangement will still be able to get the same cash after A-Day and won’t need to register it. Registration of pre A-Day Tax-Free Cash rights, if you like, is automatic and applies to everyone (unless, of course, they are applying for transitional protection in which case different rules apply). In effect, it becomes the scheme administrator’s responsibility to record the enhanced Tax-Free Cash entitlement up until the member retires (or ‘crystallises’ his or her benefits, if we want to get all modern and trendy about it). There’s an important point there, though, and that is that it is the ‘scheme’ (the EPP or S.32) itself that retains the entitlement to the higher Tax-Free Cash after A-Day, and not the individual member. So, people transferring to another pension arrangement after A-Day, but before taking benefits, could lose the enhanced Tax-Free Cash status - that’s something to be watching out for in the post A-Day world. I reckon a lot of people will get caught out by that one.
In effect it means that people choosing a particular Section 32 contract, for instance, before A-Day had better be sure it’s the one they are happy to stick with until retirement if they’re entitled to higher than 25% cash, because moving from it after A-Day mightn’t be a sensible option.
I’m slightly uneasy, too, about us all relying on our scheme administrators to get this right 100% of the time. If it were me, I’d probably want to keep an independent record of exactly what it is I’m entitled to Tax-Free Cashwise so I don’t end up losing out in the dim and distant future when everyone has forgotten all about the various pre A-Day regimes and their different Tax-Free Cash entitlements. In fact, it seems a good thing for financial advisers to keep an eye on for their clients as part of their ongoing pension audit for them.
As a small aside, and as I’ve got a minute or two before I have to rush off to the airport again, people in EPPs or S.32 plans who are already over 50 on A-Day seem to have some interesting options open to them on the Tax-Free Cash front. For many members of pre-1987 schemes it has always been possible for the whole of the fund to be taken as Tax-Free Cash. While this right continues with the scheme automatically after A-Day it may also be possible for some people in this position who are over the age of 50 to ‘retire’ before A-Day and take 100% of their fund as Tax-Free Cash. Well, I know it’s all a bit “So what? We already know that” sort of thing, but people who do this will end up in quite an interesting position.
Where pension benefits are taken before A-Day they are ‘valued’ after A-Day (when other pension benefits crystallise) at the rate of 25:1 rather than the usual 20:1. The reason for this is that the higher rate of 25:1 is to take account of the fact that the pension being thus ‘valued’ would have had some Tax-Free Cash taken when it was set-up and the higher rate allows for that. So Tax-Free Cash taken before A-Day is not ‘valued’ against the Lifetime Allowance (of £1.5 million) unless a pension benefit was taken at the same time too. In most cases this would happen automatically, but where people take 100% of their pension fund as Tax-Free Cash there is no pension set up in payment. As far as I can tell, anyone taking 100% Tax-Free Cash before A-Day could then start saving against the £1.5 million Lifetime Allowance again as though it were a clean slate! I told you all this stuff would have some interesting quirks once we got into all the ins and outs of it......
14 July 2004
This information is based on our current understanding of the Finance Bill 2004 published on 8 April 2004. This is draft legislation and may be subject to change.