RPSM03105140 - Technical Pages: Protecting pension rights from tax charges: Lump sums: Primary protection: How lump sum protection and primary protection works

How protection of lump sums with primary protection works

Individuals will be able to take a lump sum when they take some or all of their pension benefits. These lump sums are defined in paragraph 1, Schedule 29 Finance Act 2004 as pension commencement lump sums.

Pension commencement lump sums are not, apart from the lifetime allowance charge, subject to income tax. The maximum pension commencement lump sum is 25% of the standard lifetime allowance (for example £450,000 in 2010/11 when the standard lifetime allowance is £1.8m). The only exception to this rule is where an individual has protected lump sum rights.

Primary protection requires uncrystallised lump sum rights at 5 April 2006 to be valued, and uses that figure to modify the individual’s authorised pension commencement lump sum. Effectively this means that the starting point for an individual’s protection will be the value of the rights on 5 April 2006 rather than the pension commencement lump sum normally permitted under paragraph 1 Schedule 29 Finance Act 2004. Up to 5 April 2011, the lump sum rights valued on 5 April 2006 will be increased in the same way as the standard lifetime allowance. From 6 April 2012, until such time as the standard lifetime allowance at the time the lump sum is taken is more than £1.8 million, the amount of the increase will always be 20% of the value of the lump sum rights on 5 April 2006.

To be paid a pension commencement lump sum an individual must have available lifetime allowance (paragraph 1(1)(b) Schedule 29). RPSM03105180 gives an example.

Whilst an individual has available lifetime allowance a pension commencement lump sum can be paid. However the available lifetime allowance does not have to cover all of the lump sum payment. So with primary protection it is possible to be paid a pension commencement lump sum, part of which is liable to the lifetime allowance charge. RPSM03105170 gives an example.