RPSM09102100 - Technical Pages: Member benefits: An unsecured pension: Overview: Lump sum

This guidance only covers members who became entitled to an unsecured pension before 6 April 2011. If the member reached age 75 between 22 June 2010 and 5 April 2011 you should also read the guidance in RPSM17100000 onwards.

If the member became entitled to their pension on or after 6 April 2011 then see the guidance at RPSM09103500.

Payment of a pension commencement lump sum in connection with an unsecured pension

When a member designates that funds are made available to provide an unsecured pension then the scheme rules will generally also give the member the right to the payment of a lump sum.

For the payment to be treated for tax purposes as a pension commencement lump sum the lump sum must be linked to the arising income withdrawal entitlement. The lump sum may be paid within an 18 month period, starting 6 months before and ending 12 months after the member first became entitled to those income withdrawal payments.

The lump sum cannot be linked to the purchase of a short term annuity contract. This is because the legislation [para 3(1), Sch 29] links the payment of the pension commencement lump sum to the arising entitlement to income withdrawal, rather than an entitlement to an unsecured pension (RPSM09104250 explains why in more detail).

A lump sum cannot be treated for tax purposes as a pension commencement lump sum where

• the member has reached their 75th birthday when entitlement to it arises (or immediately before their 75th birthday, where all uncrystallised funds are automatically designated to provide them with an unsecured pension - see RPSM09102080),
• the member has already crystallised benefits for lifetime allowance purposes equivalent to 100% of the standard lifetime allowance (unless the member has enhanced protection or primary protection and certain conditions are satisfied, see RPSM03105000), or
• the uncrystallised funds designated to provide the member with an unsecured pension arise entirely from disqualifying pension credits. These are pension credits that, when the member became entitled to them, came from benefits held by the member’s former spouse or former civil partner that were already in payment.

The maximum pension commencement lump sum payable will be one third of the funds designated to provide unsecured pension, i.e. one third of the unsecured pension fund. This represents 25% of the total uncrystallised funds being crystallised at that time. RPSM09104350 and RPSM09104360 give examples.

This maximum will be reduced on a pro-rata basis if the member exhausts the standard lifetime allowance as the lump sum/income withdrawal entitlements arise, or if there is an element of disqualifying pension credit as described above.

If the member dies after receiving the lump sum payment, but before entitlement to the income withdrawals arises, the legislation deems the entitlement to the lump sum to have arisen immediately before death. In those circumstances, the maximum amount that can be treated as a pension commencement lump sum is the available portion of the member’s lump sum allowance.

If protection of benefits existing on 6 April 2006 is an issue, see chapter 3 RPSM03100000.

A further lump sum which is paid where additional fund designation occurs, with the member designating some (or all) of any uncrystallised funds remaining in the arrangement to be used to increase the existing unsecured pension fund, may also qualify as a pension commencement lump sum, if all the conditions are satisfied. Again the maximum tax-free lump sum permitted is linked to the size of the funds being designated at that time, and is limited by the same factors as described above.

For more information on pension commencement lump sums see RPSM09104100.