RPSM03105200 - Technical Pages: Protecting pension rights from tax charges: Lump sum: Enhanced protection: How lump sum protection works

How protection of lump sums rights works with enhanced protection where lump sum rights exceed £375,000

[Paras 27 & 29 Sch 36] [Article 18 The Taxation of Pension Schemes (Transitional Provisions) Order 2006 -SI 2006/572] 

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. The maximum pension commencement lump sum is 25% of the standard lifetime allowance (£375,000 in 2006/07 when the standard lifetime allowance will be £1.5m) unless an individual has protected lump sum rights.

Enhanced protection of lump sum rights will be achieved by

• valuing the individual’s uncrystallised lump sum rights (VULSR) at 5 April 2006 (see RPSM03105060 to RPSM03105100) and their uncrystallised pension rights (VUR) on 5 April 2006 (see RPSM03101050 to RPSM03101580),
• dividing the lump sum rights by the pension rights and multiplying by 100, and expressing the result as a percentage, and
• modifying what can be taken as a pension commencement lump sum (paragraphs 1 to 3 Schedule 29 Finance Act 2004) so that the individual’s maximum pension commencement lump sum is the amount determined by applying this percentage to the value of total benefits coming into payment under the registered pension scheme. This modification applies to all benefit crystallisation events occurring when the individual has enhanced protection.

A valid claim for enhanced protection coupled with lump sum rights exceeding £375,000 modifies an individual’s authorised lump sum benefits i.e. the amount that they may receive as a pension commencement lump sum at any time after 5 April 2006.

If a scheme provides a lump sum of less than the allowable percentage the ‘unused portion’ of the percentage cannot be used by another scheme (or the same scheme at a later benefit crystallisation event). For example an individual with enhanced protection has a lump sum percentage of 27%, but one of their schemes only provides a pension commencement lump sum of 25%. The remaining 2% cannot be used at a later benefit crystallisation event. If it is not used it is lost.

Whilst an individual has enhanced protection they do not need to have available lifetime allowance to be paid a pension commencement lump sum.

Important note

It is usually possible to pay a lump sum up to 6 months before the recipient becomes entitled to a relevant pension with the intention that the lump sum should be a pension commencement lump sum. Where the recipient dies before becoming entitled to a relevant pension the normal provisions of Schedule 29 FA 2004 ensure that the lump sum is a pension commencement lump sum. However these provisions do not operate where the recipient has enhanced protection and protected lump sum rights. As a consequence where such an individual dies after receiving a lump sum but before becoming entitled to a relevant pension that lump sum will be an unauthorised member payment.

Where before 6 April 2006 the individual could have taken all their rights from all their pension schemes (that become registered schemes on 6 April 2006) as a lump sum special rules will apply. See RPSM03105202 for more information.