HMRC issues pensions flexibility guidance on interim measures

Tue 15 Apr 2014

The most significant announcement in this year’s Budget was of greater flexibility on retirement for people with defined contribution pension schemes.  It is no longer compulsory to purchase an annuity, and it will still be possible to take out 25% of the pension pot as a tax free lump sum.  The main changes will come into effect in April 2015 when anyone over 55 will only pay tax at their marginal rate when they withdraw funds in excess of the 25% tax free lump sum instead of the current 55% tax charge.  Some interim measures apply from 27 March 2014 which improve the position for people retiring before April 2015.

• Where an individual’s overall pension pots are worth up to £30,000, it is possible to take the entire amount as a lump sum (up from £18,000). 
• Notwithstanding the above, it will be possible to take a small pension pot as a lump sum if it is no more than £10,000 (up from £2,000), regardless of total pension wealth.
• It is only necessary to have guaranteed income in retirement of £12,000 per annum, instead of £20,000 per annum, in order to enter into ‘flexible drawdown’ of the pension fund.
• The maximum amount which can be taken out each year in a ‘capped drawdown’ arrangement increases from 120% to 150% of an equivalent annuity.

Many people retiring just before the Budget have questioned whether they could change their choices and take advantage of the increased flexibility, especially from April 2015.  HMRC issued some guidance on 10 April 2015 for those people who have:

• received a tax free lump sum on or before 27 March 2014; and either
• cancelled an annuity contract within the cooling off period on or after 19 March 2014 (Budget Day) linked to that lump sum ; or
• not yet decided how to access the rest of their pension pot.

Unfortunately, anyone who purchased an annuity and the cooling off period has ended will not be able benefit from these changes, as the annuity is a contract which cannot be broken.

Where the interim measures will be available without waiting for Finance Bill 2014

It will be possible for individuals to take advantage of the interim measures with immediate effect if the pension fund either:

• hasn’t already paid out the tax free lump sum or set up the annuity; or
• has paid the lump sum but the annuity was cancelled during the cooling off period.

An annuity can also be turned into a lump sum where total pension wealth is up to £30,000, or if the value of the annuity is £10,000 or less, but in both cases the lump sum will be taxable.

Where increased flexibility will be available after Finance Bill 2014 changes are made

For individuals who have recently received their lump sum, it will remain tax free where the lump sum has been paid out and an annuity purchased, but the annuity has been cancelled within the cooling off period and:

• both amounts have been paid back to the pension scheme.   In this situation, it will be possible to use the interim measures once they become law, and it will be possible to wait until April 2015 to take advantage of the wider reforms.
• the individual retains the lump sum and the annuity purchase price is paid back to the pension scheme, held temporarily by the firm that cancelled the annuity or is transferred to another firm in order to draw down the funds.  In the later case, it will only be possible to take advantage of the partial relaxations in Finance Bill 2014 once they become law, and in order to benefit from full pension flexibility it will be necessary to wait until April 2015. (Note it does not say it will be necessary to wait until Finance Bill 2015 becomes law.)

If the individual chooses to retain their lump sum but keep the remaining funds invested, the lump sum taken will be treated as the final amount for tax purposes.  Thus, if the remaining fund grows it will not be necessary to top up the tax free amount with 25% of the growth. Conversely, if the value of the fund falls, there will be no charge to tax on the ‘excess’ amount taken.