RPSM03109026 - Technical Pages: Protecting pension rights from tax charges: Death benefits: Pre-commencement right to death benefits example

Example of the valuation of 'pre-commencement rights to death benefits'

On 5 April 2006 Ai Ling is prospectively entitled to the payment of £4 million in lump sum death benefits. This total does not include any lump sums that would exceed HMRC limits. It does not include any lump sums in respect of pension rights to which she is already entitled.

The lump sum rights arise under 3 schemes as follows:

• Scheme A – a scheme that is not an occupational pension scheme provides a lump sum of £500,000. This consists of £200,000 payable as a return of funds and £300,000 payable under a life assurance policy. The terms of the policy are varied significantly before Ai Ling’s death. Therefore only £200,000 is taken into account initially.
• Scheme B - an occupational pension scheme with less than 20 members on 5 April 2006. It provides a lump sum of £500,000 under a life assurance policy. The terms of the policy are not varied and a sum assured is paid under the policy. Before death Ai Ling ceased to be employed by the sponsoring employer of the scheme. She has not been employed by a person connected with the sponsoring employer. Therefore the £500,000 lump sum is not taken into account.
• Scheme C – an occupational pension scheme with 100 members on 5 April 2006. It provides a lump sum of £3 million. Variations to the life assurance policy do not affect the valuation of Ai Ling’s lump sum rights. Ai Ling was continuously employed by the sponsoring employer of the scheme from 5 April 2006 until her death. She had not become entitled to benefits from the scheme before her death. So £3 million is taken into account initially.

At the initial stage only £3.2 million is taken into account (being the £3 million from scheme C and £200,000 from scheme A).

Following Ai Ling’s death scheme C pays a lump sum death benefit of £2.4 million and a dependant’s pension of £60,000. The pension is paid instead of paying a further lump sum of £1.2 million. The total potential lump sum payable from scheme C is £3.6 million and the dependant’s pension proportion is one third.

Scheme A pays £250,000 as a return of fund. The entirety of the fund at the date of payment is used to provide the £250,000 lump sum death benefit. There is no dependant’s pension proportion amount for scheme A.

Applying the dependant’s pension proportion to the value of the lump sum payable from scheme C on 5 April 2006 (£3 million) gives a dependants’ pension proportion amount of £1 million. Subtracting this from the £3.2 million (total amount of lump sums from scheme A and C at initial stage) gives a value of £2.2 million for Ai Ling’s ‘pre-commencement rights to death benefits’.