RPSM03302120 - Scheme Administrator Pages: Protecting pension rights from tax charges: Valuing lump sums: Example 3

Example 3 of valuing lump sum rights - all benefits are money purchase

Sam has uncrystallised rights in a personal pension with a value of £1.3 million on 5 April 2006. She also has uncrystallised rights in a retirement benefit scheme of her current employer. She has 1989 rights in the scheme. At 5 April 2006, she has 15 years pensionable service and pensionable earnings of £105,600 (which due to the ‘earnings cap’ is lower than her actual salary of £175,000). Her normal retirement date is 5 April 2010. The personal pension benefits are not a retained benefit as they relate to a wholly concurrent employment.

Step 1: Calculate Sam’s lump sum rights under each scheme.

Sam’s rights in the personal pension are worth £1.3 million but £50,000 of these are ‘protected rights’ that cannot be paid as lump sums. Her uncrystallised lump sum rights are therefore 25% of £1,250,000, giving £312,500.

Her uncrystallised lump sum rights in the retirement benefit scheme are the greater of

• 3/80 x 15 (years) x £105,600 = £59,400, and
• 2¼ x the initial gross pension from the scheme.

She has money purchase rights in the scheme valued at £700,000 on 5 April 2006. To determine the amount of annual pension payable from the scheme, the capital value (£700,000) could be divided by 20, or an annuity rate taken from the GAD tables on 5 April 2006 could be applied to the capital value. In this example, the divisor of 20 is used giving an annual pension of £35,000. Multiplying the pension by 2¼ gives £78,750 which is the greater lump sum of the two calculations above.

Step 2: Calculate Sam’s maximum permitted lump sum (the HMRC limit test).

In this instance the calculation of the rights in the retirement benefit scheme is the same as at Step 1.

If the GAD tables had been used to determine the annual pension payable, the calculations at Step 1 and 2 may have produced different results. For step 1 Sam would be deemed to be 60 (her normal retirement age) and that age would have been used in Step 1 for the GAD calculation. Her actual age (55) would be used for the GAD calculation at Step 2.

Where the lump sum value requires an annual pension figure, the same method (GAD table or divisor of 20) must be used in Steps 1 and 2. If the pension is a defined benefits pension the divisor of 20 must be used.

Summary - Sam’s uncrystallised lump sum rights are £391,250 (£312,500 plus £78,750).