RPSM03106100 - Technical Pages: Protecting pension rights from tax charges: Taking benefits before normal minimum pension age: Example 2 - reduction of lifetime allowance

Example 2 of the effect of the reduction of the lifetime allowance where a member takes benefits before normal minimum pension age

Horace has a protected pension age of 35. In 2007/08, aged 37, Horace takes pension rights with a capital value of £1.2 million as a pension and lump sum. The normal minimum pension age is 50 and the standard lifetime allowance is £1.6 million.

Horace's lifetime allowance is reduced by 2.5% for each of the 12 complete years between the date of taking benefits and the normal minimum pension age. That is a reduction of 30%. His available lifetime allowance for these benefit crystallisation events is £1.12 million.

This reduced lifetime allowance affects the amount that Horace can receive as a pension commencement lump sum. The maximum lump sum that Horace can receive is £280,000 (£1.12 million/4).

Horace is paid a lump sum of £280,000 with remaining £920,000 being used to provide a pension. The value of the benefits paid, £1.2 million, is tested against the amount of the reduced lifetime allowance (£1.12 million). As the value of the benefits crystallised exceeds the available lifetime allowance there is a lifetime allowance charge on £80,000.

In 2026 Horace crystallises benefits with a capital value of £1 million from another pension arrangement, having reached the normal minimum pension age of 55. At this point of the standard lifetime allowance stands at £2.85 million.

As the value of Horace's previous benefit crystallisation events exceeded his available lifetime allowance the amount of the previous benefit crystallisations is deemed to be the amount of his available lifetime allowance at that time, £1.12 million. This amount is then indexed to find the current value of the previous benefit crystallisation events.

The amount of lifetime allowance used up by the previous benefit crystallisation events is £1,995,000. This means that Horace only has £855,000 (£2.85 million - £1,995,000) available lifetime allowance. The maximum pension commencement lump sum Horace can receive is £213,750 (being £855,000/4).

Horace takes a lump sum of £213,750 and the remaining 786,250 is used to provide a pension. Of the £1 million crystallised the £145,000 excess over Horace’s available lifetime allowance will be liable to the lifetime allowance charge.