WTW comment
In different ways, both announcements reflect mismatches between expectations and the literal letter of the law (or, more accurately, HMRC’s interpretation of it), yet they are progressing in very different ways.
Still abolishing the lifetime allowance
The Draft Finance Bill clauses, which became the Finance Act 2024, were drafted within months of the surprise announcement in the UK Spring Budget 2023 to abolish the Lifetime Allowance in its entirety. Broadly speaking, the aim was to sweep away the system of testing and limiting pension payments that had grown since 2006 and replace it with limits on the tax-free cash that could be taken from pension schemes. The intention was to honour protections members had already built up (both since 6 April 2006 and long before that, “A-Day”) and to avoid step changes in the amount of tax-free cash payable to individual members. As with previous generations of “simplification”, sweeping away decades of legislation meant that much of it then needed to be reincorporated into the new regime. Not surprisingly, the Bill presented to Parliament (the pensions schedule covering 100 pages), and subsequently the Finance Act 2024 itself contained errors and omissions, though many were known about in 2023. As the Act was passed just weeks before it came into effect, and some of the erroneous cases were relatively rare, it has taken HMRC some time to identify all the problems and rectify them. Though seemingly minor points of detail, they created uncertainty and real financial consequences for the pension schemes and their members where they applied. Three sets of “Abolition of the Lifetime Allowance Charge etc “ regulations have already been issued to correct the Act since it received Royal Assent. Now, a fourth is on its way ahead of regulation-making amendment powers in the Finance Act 2024 expiring on 5 April 2026.
WTW’s Pensions Technical Unit has raised many queries in relation to the LTA abolition with HMRC since 2023, and HMRC has already rectified most of these.
We have pointed out to HMRC that the way members’ previously crystallised lump sums are valued for the purposes of trivial commutation lump sum testing has changed, so that earlier “trivial” or “small” lump sums that could be ignored prior to 6 April 2024 now need to be valued. We assume this will be corrected. Administrators and members will welcome the change as it avoids members needing to find paperwork for small and trivial (by definition!) lump sums that were not previously tested against the LTA.
Similarly, the new “scheme-specific lump sum” protection has required multiple rewrites. We have pointed out that the current wording leads to different outcomes for members with certain forms of lifetime allowance protection (primary, enhanced and lifetime allowance enhancement factors) than would have applied under the pre-6 April 2024 legislation. We assume that the new regulations will restore the essence of the older calculation approach.
While we welcome the correcting regulations, it seems unlikely that they will fully resolve all the known issues with the new legislation, particularly as some problems may yet come to light. We hope that HMRC continues its iterative approach to correcting the legislation and addressing the known issues raised by industry.
As a final aside to this section, we note that an apparently simple but sweeping change to complex and multi-layered legislation has (as the industry warned) proved more complicated and time-consuming to deliver than many outside of the pensions nitty gritty perhaps realised. That does not bode well for the current attempt to fully integrate pension death benefits into the inheritance tax regime.
Cooling off tax-free lump sums
As the FCA noted, “firms have adopted varying approaches to structuring PCLS”. Some schemes and providers have previously operated on the assumption that PCLS could be cancelled in connection with the cancellation of the associated pension entitlements that made the lump sums valid, and it is evident there have been different interpretations of the FCA guidance for many years. Those schemes and providers that allowed the return of PCLS appear to have done so as a genuine attempt to comply with members’ cancellation rights, and there is no suggestion that members were attempting to improperly obtain more than their allowed amounts of tax-free cash. The issue came to the fore in late 2024, when it became widely noted that there was an uptick of individuals seeking to access their PCLS ahead of the Labour Government’s first Budget, only to then want to undo those crystallisations when their fears did not materialise.
Both HMRC and the FCA refer to schemes “voluntarily” offering cancellation rights. However, it is clear that in the context of lump sum payments, the term ‘cancel’ falls well short of meaning ‘to render void’ and that there will be tax consequences. What those tax consequences are is less clear. The newsletter highlights that the use of the individual’s lump sum allowance and lump sum death benefit allowance cannot be undone. HMRC adds a warning regarding the possibility of unauthorised payments arising, noting that “The conditions as set out in tax legislation will need to be met in order for the pension commencement lump sum or uncrystallised funds pension lump sum to remain an authorised payment”. HMRC’s earlier newsletter highlighted “for example if a member is not entitled to a relevant pension … within 6 months of the PCLS being paid, it is an unauthorised payment and the unauthorised payments charges will apply”.
