PENSIONS – SIMPLIFIED TAX REGIME
Synopsis: Individuals who have an election for Enhanced Protection and both forms of Fixed Protection need to be aware that the protection may be lost if they join their employer’s Group Life Scheme.
Date posted: Friday, July 25, 2014
Full details of the conditions that must be adhered to for an individual to maintain either Enhanced Protection or Fixed Protection are set out in full in our Library document entitled Transitional Protection, here .
Based upon several queries that have come into Opus Gold over the past years, it seems that individuals may be inadvertently invalidating their election by joining a Death in Service or Group Life scheme.
This Bulletin will consider the interaction with enhanced and fixed protection with Group Life Schemes, the background to this problem and show how planning can help avoid the inadvertent loss of protection. The other Bulletins in the series are:
One of the common conditions to maintain Enhanced Protection or Fixed Protection is that the individual concerned must not join another arrangement a new or existing registered pension scheme arrangement, except for a number of defined reasons, set out in RPSM03104095 as being:
• to receive a permitted transfer,
• as part of a retirement-benefit activities compliance exercise, or
• as part of an age-equality compliance exercise.
The corresponding RPSM pages relating to Fixed Protection 2012 and Fixed Protection 2014 are RPSM11106040 and RPSM11106230 respectively. An explanation of what is meant by a ‘retirement-benefit activities compliance exercise’ is set out in RPSM03104096.
However, what many people overlook is that traditionally Death in Service or Group Life schemes are written under registered pension scheme legislation and therefore in some instances, an individual joining such a scheme can invalidate their protection. This can result in a significant penalty, not just the tax charge on crystallisation, but also the fines for not notifying HMRC of the loss of protection within 90 days of joining the scheme.
The following three examples help to explain the potential issues
• Since 1990 Andrew has been employed by Widgets plc and a member of their Group Death in Service arrangement, which is established as a UK registered pension scheme and has been underwritten by the same insurance company since 2004. In 2014, the cover was ‘re-broked’ and moved to a new insurer. This exercise was undertaken with the new insurer utilising the existing registered pension scheme. This would not result in Andrew losing his election for Enhanced Protection as there is no change in the pension scheme.
• Brian has been employed by Xerces Machine Tools Ltd for a number of years and has an election for Enhanced Protection. He has recently been head-hunted and joined a new employer. The terms of service offered to all new employees includes automatic membership of Xerces’ Group Death in Service arrangement, which is established as a UK registered pension scheme. Unless Brian declines to join the Group Death in Service arrangement he will invalidate his election for Enhanced Protection. This is because he has joined a new UK registered pension scheme for reasons other than set out in RPSM03104095.
• Charles elected for Fixed Protection 2012 in March 2012 and wrote to his employer, Yellow Waffles Ltd, asking for the cessation of all contributions to the company’s Group Personal Pension Plan. On 1 October 2012 he was promoted and became eligible for membership of the executive Death in Service arrangement, which he accepted. However, he didn’t realise this was established as a UK registered pension scheme. By joining the DIS scheme he lost Fixed Protection 2012, because he had joined a new UK registered pension scheme for reasons other than set out in RPSM03104095.
In each of these three examples, the result would have been the same whether the individual held Enhanced Protection or Fixed Protection 2012/2014.
Payment of Death Benefits
When considering the payment of death benefits, we need to distinguish between enhanced protection and fixed protection.
In respect of fixed protection, the payment of death benefits from a defined benefit arrangement on the death of a member is outside the test for the definition of ‘the benefits amount’ and consequently also outside the benefit accrual test undertaken to ascertain if fixed protection has been lost when benefits are taken.
The position in respect of enhanced protection is more complex. RPSM03109030 confirms that the payment of the following death benefits will not cause the loss of enhanced protection:
• a dependant’s pension,
• a pension protection lump sum death benefit,
• a charity lump sum death benefit,
• a transfer lump sum death benefit,
• a trivial commutation lump sum death benefit or
• a winding up lump sum death benefit.
Unlike fixed protection, the payment of other lump sum death benefits from a defined benefit arrangement can result in the loss of enhanced protection. There are rules on calculating enhanced protection where either a defined benefits lump sum death benefit is paid on the death of the member, where the member’s entitlement to lump sum death benefits as at 5 April 2006 was greater than the ‘appropriate limit’. For this provision to apply the recipient of the lump sum death benefit has to give notice to HMRC that it is intended to apply.
Where the amount of the lump sum death benefit would exceed the appropriate limit it will become the ‘appropriate limit’ for this purpose.
In this case the ‘appropriate limit’ will be determined as the greater of:
• the value of the individual’s ‘pre commencement rights to death benefits’ as increased by the relevant indexation percentage (e.g. 5% pa, increase in the RPI or such other increase as set out in Regulations), and
• what would be the value of the individual’s ‘pre-commencement rights to death benefits’ increased by ‘earnings substitution’ (see definition in section 10) up until the date immediately before the member’s death.
The value of the individual’s ‘pre-commencement rights to death benefits’ is defined as the aggregate of the maximum amounts that could have been paid in respect of the individual under the pension scheme if the individual had died on 5 April 2006.
The above rules are well set out in the flow chart produced by HMRC on page RPSM03109120.
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