Spring 2015 reforms: the new DC flexibilities

Transcription

1 Spring 2015 reforms: the new DC flexibilities THE REFORMS AT A GLANCE y Until April 2015, members usually faced serious tax penalties if they did not spend at least 75% of their DC pots on an annuity meeting certain requirements. (For these purposes, DC pots and DC benefits include money purchase and cash balance pots and benefits.) The requirement to annuitise DC benefits has been removed. In addition, the drawdown restrictions and some of the annuity restrictions have been removed. y Trustees have a statutory power to offer a number of new options in relation to DC benefits at retirement including: flexi-access drawdown; uncrystallised funds pension lump sums; and pension commencement lump sums where a member takes flexi-access drawdown. y Trustees do not have a statutory duty to offer any of these flexibilities. Trustees can amend their rules (with employer consent) to charge members for exercising these options. y In addition to the new options, trustees are still able to offer annuitisation, standard pension commencement lump sums and small pot ( de minimis ) commutation payments of up to 10,000 if their scheme rules provide for them. y However, trustees are no longer able to pay trivial commutation lump sums from small DC pots (i.e. where the member s benefits across all registered pension schemes are valued at under 30,000). Trivial commutation of small DB pots is still available. y Where a member accesses a drawdown fund in any scheme or takes an uncrystallised funds pension lump sum, a new money purchase-only annual allowance has been introduced across all registered pension schemes that the member belongs to. y DC members have a right to free guidance at retirement. Schemes are subject to a range of new disclosure and provision of information obligations. y These changes apply to money purchase AVCs, and other DC pots held in DB schemes, not just to benefits held in pure money purchase or cash balance schemes. y Changes have also been made to the tax treatment of benefits paid on a member s death (both DB and DC), and of serious ill-health lump sums paid to members who have less than 12 months to live. This Update provides a summary of some key points, but is not comprehensive. If you need legal advice or assistance in connection with any of the issues covered, please speak to your usual Mayer Brown contact.

2 TYPES OF PAYMENTS THAT DC SCHEMES CAN MAKE FROM APRIL 2015 Flexi-access drawdown What is flexi-access drawdown? If a member designates a part of his or her DC pot as available for flexi-access drawdown, the member can then leave it invested in the scheme and draw it in the form of one or more lump sums as and when the member wishes, rather as if it was a bank account (subject to any restrictions that the scheme applies). Pre-April 2015 tax rules allowed two forms of drawdown, but there was a cap on the amount of cash that could be withdrawn unless the member had at least 12,000 of additional pension income from other sources. These restrictions do not apply to flexi-access drawdown. Can members still take a pension commencement lump sum? Where members designate funds as available for flexi-access drawdown, they can take an additional tax-free pension commencement lump sum out of the remainder of their DC pot, equal to up to 1/3 rd of the amount they have designated. So if they have designated 60,000 for flexiaccess drawdown, they can take up to a further 20,000 tax-free from the rest of their pot, payable up to six months before or up to 12 months after the time of designation. How is drawdown taxed? Withdrawals from flexi-access drawdown funds are taxed at the member s marginal rate as if they were income. Schemes proposing to offer a drawdown option will therefore need to deduct PAYE as and when funds are withdrawn. Not all DC schemes or administrators are authorised to do this: in the past they may only have needed to pay tax-free pension commencement lump sums or to transfer members pots to annuity providers. Can the member still buy an annuity? Designating funds for flexi-access drawdown will not prevent the member from later using those funds to buy an annuity outside the scheme. However, no additional tax-free cash will be payable if a member later uses some of the designated funds to buy an annuity. What are the annual allowance implications? A member who accesses drawdown funds will face a reduced annual allowance for future pension saving see the Money purchase annual allowance section below. Merely designating sums as available for drawdown, and taking a pension commencement lump sum when the sums are designated, will not affect the annual allowance. Can cash balance benefits be used for flexi-access drawdown? Where a member holds cash balance benefits, these must be converted into money purchase form in order to be designated for flexi-access drawdown. Regulations provide that this type of conversion will not breach the rules under s67 Pensions Act 1995 that restrict amendments which may adversely affect benefits that members have built up. The regulations also give trustees a power to amend their scheme rules by resolution (but subject to employer consent) to allow for this type of conversion. Uncrystallised funds pension lump sums What is an uncrystallised funds pension lump sum? An uncrystallised funds pension lump sum (also known as an UFPLS ) is a new type of authorised lump sum payment. A member can take all or part of his or her DC benefits as an UFPLS if the scheme allows. A member can take multiple UFPLSs or can withdraw all his or her DC benefits in a single payment. However, an UFPLS cannot be taken from funds designated for flexi-access drawdown. How is an UFPLS taxed? 25% of each UFPLS is tax-free, with the remainder being taxed at the member s marginal rate. As with drawdown, schemes proposing to pay an UFPLS should check that they or their administrators are authorised to deduct PAYE. What are the annual allowance implications? As with drawdown, a member who takes an UFPLS will face a reduced annual allowance for future pension saving. Commutation When can benefits be exchanged for cash under the small lump sum rules? From 6 April 2015, the age from which small DB or DC pensions can be exchanged for cash of up to 10,000 under the small lump sum rules has been lowered from 60 to 55. (The limit of 10,000 was increased from the previous limit of 2,000 in March 2014.) When can benefits be exchanged for cash under the trivial commutation rules? It is no longer possible to exchange DC benefits for a trivial commutation lump sum (i.e. where the aggregate of the member s benefits across all registered pension schemes is valued at less than 30,000). Trivial commutation of DB benefits is still possible and, from April 2015, the age at which DB pensions can be commuted for a trivial commutation lump sum has gone down from 60 to 55. (The trivial commutation limit was raised from 18,000 to 30,000 in March 2014.) Also, from April 2015, the limit for a trivial commutation lump sum death benefit (where a dependant s benefits under a scheme are exchanged for a lump sum) has been increased from 18,000 to 30,000. Are commutation exercises incentive exercises? The Incentive Exercises Monitoring Group has published a statement that, in its view, one-off trivial and small pot commutation exercises may fall within the scope of the Code of Practice on Incentive Exercises. 2 mayer brown

3 Annuities What were the pre-april 2015 annuity rules? Under the pre-april 2015 regime, in order for the purchase of an annuity to be an authorised payment: y the annuity had to be purchased from an insurance company; y the member had to be given the opportunity to select the insurance company; and y the annuity could not decrease once in payment. What s changed? From April 2015, there is no longer a tax law requirement to give the member the opportunity to select the insurance company, and annuities can decrease in payment. Can scheme pensions still be offered? It is still possible to use DC pots in occupational pension schemes to provide a scheme pension instead of an annuity. However, a scheme pension can only be offered if the member has had the opportunity to take an annuity first. Statutory override Do trustees have to amend their scheme rules to offer these new flexibilities? The Taxation of Pensions Act 2014 includes a statutory override under which trustees have the power (but do not have a statutory duty) to offer certain payments connected with the new flexibilities irrespective of their scheme rules. The payments that trustees can make using the override include: y a payment of drawdown pension; y an UFPLS; y a sum to purchase a short term annuity; and y a pension commencement lump sum in connection with income withdrawal. Trustees do not need employer consent to offer these options under the override. What about employer consent and charging members? The override does not itself allow trustees to recover the costs of offering the new flexibilities from members. If trustees are interested in offering any of the more complex flexibilities but are concerned about the cost implications, they may therefore want to amend their rules to give members a scheme option to take these benefits, by introducing a new rule that allows the trustees to pass administration costs on to members who choose that option. This is likely to require employer consent. In addition to the statutory override under the Taxation of Pensions Act 2014, regulations give trustees a power to amend their rules by resolution to offer flexi-access drawdown and/or UFPLSs and to convert cash balance benefits into money purchase benefits so that those benefits can be designated as flexi-access drawdown funds. This power also allows trustees to include conditions on the exercise of retirement options added to the scheme using the power, including a requirement for members wishing to exercise one of the new options to pay a fee. The exercise of this amendment power is subject to employer consent. What should trustees be doing (if they have not already)? DC schemes (including schemes offering DC AVCs): Trustees should consider whether they wish to offer any of the new flexibilities. The employer s views on this should be sought. They should also consider whether to review the scheme s investment fund range and in particular any default option, to reflect the fact that the age at which, and the form in which, members take their benefits may differ widely. Member communications should be reviewed and updated to reflect the changes. Trustees should consider whether a special member communication is required. Trustees should also consider whether to offer small pot commutation to any members and/or trivial commutation to any dependants who have become eligible as a result of the changes to the benefit value and age limits for commutation. DB schemes: Member communications should be reviewed and updated to reflect the changes. Trustees should consider whether a special member communication is required. Trustees should review the scheme s commutation factors in light of the changes to the benefit value and age limits for commutation, and should consider whether to offer trivial/ small pot commutation to any members/dependants who have become eligible as a result of the changes to the benefit value and age limits. Trustees should also review the scheme s investments to ensure that there is sufficient liquidity to cope with any potential increase in commutations or transfer requests. mayer brown 3

4 MONEY PURCHASE ANNUAL ALLOWANCE From April 2015, a new money purchase-only annual allowance ( MPAA ) of 10,000 applies for future DC savings once a member flexibly accesses his or her DC benefits. What s meant by flexibly accessing benefits? For these purposes, the following count as flexibly accessing DC benefits: y receiving an UFPLS; y making a withdrawal from flexi-access drawdown funds; and y certain other limited circumstances. For the avoidance of doubt, the MPAA will not be triggered by the following: y merely designating funds as available for flexi-access drawdown (as opposed to actually drawing on those funds); y taking a pension commencement lump sum (even in connection with designating funds for drawdown); y receiving a lump sum under the trivial commutation or small pot rules; y receiving a scheme pension (provided at least 11 other individuals are in receipt of either a scheme pension or dependant s scheme pension from the scheme); and y receiving a lifetime annuity (provided it cannot be decreased other than in prescribed circumstances). How does the MPAA fit in with the standard annual allowance? There are relatively complicated rules on how the MPAA interacts with the standard 40,000 annual allowance where the member accrues DB benefits after flexibly accessing DC benefits. Essentially, if a member has become subject to the MPAA, he or she can make combined DC and DB savings of up to 40,000 in a tax year, provided his or her DC savings in that tax year are less than 10,000. However, if the member s DC savings exceed 10,000, he or she will face an annual allowance charge on the excess DC savings, and will only be able to make DB savings in that tax year of up to 30,000 (plus any unused standard annual allowance carried forward from the previous three tax years there is no carry forward facility for unused MPAA). Do schemes have new provision of information obligations? To enable the MPAA to operate, regulations impose important new information requirements when a member first flexibly access DC benefits under a scheme. (Remember that this includes taking an UFPLS.) The trustees or other provider have 31 days in which to send the member a statement that: y tells the member that he or she has flexibly accessed benefits; y explains the implications for the member of being subject to the MPAA; y tells the member that he or she has 91 days to tell all other registered pension schemes of which he or she is an active member that he or she has flexibly accessed DC benefits under another scheme; and y tells the member that if he or she becomes an active member of any other registered pension scheme in future, the member must notify that scheme s administrator that he or she has flexibly accessed benefits under another scheme. This statement need only be provided when the member first flexibly accesses his or her DC benefits under the scheme. In addition, the existing requirements about the provision of pension saving statements and reporting to HMRC have been extended. They require scheme administrators to: y provide a pension savings statement to any member whom they believe has flexibly accessed DC benefits (whether held in that scheme or another registered pension scheme) and who has new DC savings in excess of 10,000 in that scheme; and y report the provision of any such pension saving statements to HMRC in an event report. What should trustees be doing (if they have not already)? All schemes: Administration processes should be updated to reflect the new money purchase annual allowance requirements. Member communications should be updated to reflect the introduction of the money purchase annual allowance, and trustees should consider whether a special member communication is required. What about hybrid arrangements? There are even more complicated rules on how the MPAA operates where a member accrues future benefits under a hybrid arrangement (where the benefit promise is the greater of a money purchase/cash balance benefit or a defined benefit). Generally speaking, however, if the hybrid arrangement was in place prior to 14 October 2014, accruals under it will be valued in the same way as for the standard annual allowance. 4 mayer brown

5 THE GUIDANCE GUARANTEE AND NEW DISCLOSURE OBLIGATIONS To help members make the right decision on what to do with their DC benefits, a new guidance service has been established and schemes are subject to new disclosure obligations in relation to members with DC benefits. What s the guidance guarantee? Members with DC benefits have a right to receive free at retirement guidance from an independent guidance service known as Pension wise. The guidance is designed and tailored to help individuals understand their options, but does not recommend specific products. A website for the service has been set up. The initial guidance providers are the Citizens Advice Bureau (which provides face to face guidance) and the Pensions Advisory Service (which provides telephone guidance). The Treasury has power to designate other organisations as guidance providers and to revoke a provider s designation. The Financial Conduct Authority (the FCA ) has set standards for the guidance and will monitor the providers compliance with those standards. The service will be funded by a levy on FCA-authorised firms. What are the new disclosure obligations? Where a member has an opportunity to transfer DC benefits, trustees must provide certain prescribed information at specified trigger points. These trigger points are where: y the member asks for information on his or her options in relation to those benefits or tells the trustees he or she is considering or has decided what to do with those benefits; or y the trustees otherwise communicate with the member about his or her options in relation to those benefits, and the member: y is less than four months from normal minimum pension age; y has reached normal minimum pension age; or Are there any other changes to the disclosure rules? Changes have also been made to: y the basic scheme information that must be provided to members; y the information that trustees must provide to members as they approach retirement and on retirement; and y the information that trustees must provide when a member dies and a person may be entitled to exercise rights or options in relation to DC benefits under the scheme as a result of that death. What s the second line of defence? In addition to the guidance guarantee, there is a second line of defence when DC members retire involving the provision of risk warnings by schemes. The requirements for trust-based schemes are set out in the Pensions Regulator s guide on communicating with members about the new flexibilities. This states that trustees should give members generic risk warnings on the four main ways in which DC benefits can now be taken (i.e. as an annuity, via flexi-access drawdown, as multiple UFPLSs or as a single UFPLS). The guide recommends that trustees should avoid giving specific risk warnings based on members individual circumstances. Providers of contract-based schemes are subject to more stringent requirements under FCA rules. What should trustees be doing (if they have not already)? DC schemes (including schemes offering DC AVCs): Administration and retirement processes and member communications should be updated to reflect the new disclosure requirements. Retirement processes should also be updated to reflect the new recommendation to give members relevant risk warnings. Trustees should also discuss with the employer whether to offer members access to independent financial advice that goes further than the guidance guarantee and whether this would be at the members cost. y satisfies the statutory ill-health condition. The information to be provided varies depending on the trigger point, but includes (among other things) information on the member s right to use the Pension wise guidance service and on how the member can access the service. The Pensions Regulator has published a guide for trustees on communicating with members about the new flexibilities. mayer brown 5

6 DEATH AND SERIOUS ILL-HEALTH BENEFITS Death benefits Prior to April 2015, when the death benefits (whether DB or DC) payable in respect of a member were paid in lump sum form, the recipient of the lump sum had to pay tax on them at a rate of 55%, unless (where DB benefits were concerned) the member died before age 75. What s changed in relation to DC death benefits? From April 2015, members with DC benefits can nominate one or more beneficiaries to receive any unused drawdown funds and/or uncrystallised DC benefits on their death. If the member dies before age 75, the beneficiary will generally receive the funds tax-free whether they are paid in lump sum form or via drawdown. If the member dies after age 75, the beneficiary will pay tax at his or her marginal rate if the funds are paid via drawdown or at 45% (rather than 55%) if the funds are paid as a lump sum. The Government intends to reduce this 45% rate to the beneficiary s marginal rate from the 2016/17 tax year. Serious ill-health benefits Members can commute their DB or DC benefits in full on the grounds that they have less than 12 months to live. Prior to April 2015, if they did so after the age of 75, a tax charge of 55% applied to the lump sum. From April 2015, this tax charge has been reduced to 45%. This change applies to payments made on or after 6 April What should trustees be doing (if they have not already)? All schemes: Trustees should review their scheme s death benefit provisions to ensure (if desired) that they enable the trustees to pay death benefits in the most tax-efficient way. Administration processes should be updated to reflect the new tax rates for death and serious ill-health benefits. Member communications should be updated to reflect the changes. Beneficiaries of a member s unused drawdown funds and/or uncrystallised DC benefits will also be able to nominate a successor to receive any unused inherited funds in the event of the beneficiary s death. Regulations give trustees a power to amend their scheme rules by resolution (but subject to employer consent) to allow for nomination of a nominee or successor and to allow unused drawdown funds to be paid in lump sum form following the death of the member/dependant/nominee/ successor. What s changed in relation to DB death benefits? From April 2015, if a member with DB benefits dies, the scheme can (as before) to pay any death benefits in lump sum form or in the form of a dependant s scheme pension. If the member dies before age 75, the lump sum will be tax-free while the recipient of a dependant s scheme pension will pay tax at his or her marginal rate. If the member dies after age 75, the lump sum will be taxed at 45% (rather than 55% and reducing to the recipient s marginal rate from the 2016/17 tax year), and the recipient of a dependant s scheme pension will pay tax at his or her marginal rate. When did these changes take effect? These changes apply to payments made on or after 6 April 2015 (as opposed to payments made in relation to deaths occurring on or after 6 April 2015). Payments must still be made within two years of the individual s death to qualify as authorised payments. 6 mayer brown

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8 Americas Asia Europe pen May 2015