Member Article

The Government has announced radical changes which are likely to significantly affect the way in which people access and use their pension savings in the UK.  The relaxation of the effective requirement to use a defined contribution fund to buy an annuity (through the taxation of lump sum payments from pension savings above the tax-free lump sum limit at an individual’s marginal income tax rate rather than a penal rate of 55%) from April 2015 is a fundamental policy shift and has been widely reported.  

This move towards additional flexibility in pension savings is also reflected in a number of other pension changes announced which will allow more members to take their benefits as lump sums and make drawdown more widely available. 

Trivial commutation lump sum increased to £30,000

The trivial commutation lump sum limit will increase from £18,000 to £30,000 with effect from 27 March 2014.  This means that from age 60 a member can take all his pension benefits as a lump sum provided his pension savings across all registered pension schemes do not exceed £30,000.  At present no equivalent increase has been announced for trivial lump sums payable on death or the winding up of a pension scheme.

Small lump sum payments of up to £10,000

Schemes are currently able to commute pension savings of up to £2,000 regardless of the value of the member’s pension savings in other schemes.  From 27 March 2014, this limit will be raised to £10,000.  

Drawdown rules

From 27 March 2014, individuals taking capped drawdown will be able to take 150% of the value of an “equivalent annuity” each year – this is an increase from 120% of the value currently permitted. The minimum income requirement for flexible drawdown (i.e. the guaranteed minimum income an individual has from a combination of state pension, scheme pension and annuity) is being reduced from £20,000 to £12,000.

Transfers from DB to DC schemes

From April 2015, all drawings from DC pension savings will be subject to an individual’s marginal income tax rate – with the exception of the 25% tax free lump sum which will continue to be available.  This will give individuals more flexibility as they will be able to choose whether to take all or some of their DC pension pot as a lump sum, designate it for income drawdown or purchase an annuity. 

The Government recognises that this flexibility may encourage individuals to transfer DB pension benefits to a DC scheme in order to take larger cash lump sums.  For unfunded public sector schemes this would create an immediate cost for the Treasury and therefore the Government intends to prevent members of public sector schemes from being able to transfer their DB benefits to a DC scheme, except in very limited circumstances.

The Government is currently considering whether the same restrictions should also apply to members of private sector DB schemes on the basis that, as major long-term investors, there could be significant implications for the UK economy if large scale transfers were to be made out of DB schemes.  

The DB to DC transfer restrictions are subject to consultation and are therefore still to be finalised by the Government. However, it is clear that these restrictions could have a significant impact on the scope of liability management exercises available to pension schemes.

Free financial advice

Pension providers and trust-based schemes will have a duty from April 2015 to offer all individuals with DC pension savings free financial advice at retirement.  

The Government has pledged £20m to get the initiative up and running but does not explain how it will be funded on an on-going basis so it is likely that the cost would have to be met by the providers and schemes affected.

Increase in normal minimum pension age

The Government proposes that the normal minimum pension age (the minimum age at which an individual can take retirement benefits from a pension scheme without incurring tax penalties) will be increased to age 57 by 2028 and thereafter rise so it is always 10 years before the state pension age.