At the start of the year, it is not uncommon to make resolutions about changing jobs but if or when this turns into a reality it can also become a nightmare for pension planning.
For those readers who have accumulated significant pension funds (and those who are recruiting staff with such fortune or foresight) the act of joining the new company's Death in Service Scheme can unwind years of meticulous pension planning.
The majority of Death in Service schemes are established under a deed of trust and registered with HMRC using pension legislation. The main advantages of registration are that the employer receives tax relief on the contributions, claims are not taxed as a benefit in kind and any benefits are paid out tax-free. The disadvantage is that, as far as HMRC are concerned, this is a pension scheme.
The concept of the Lifetime Allowance (LTA) was created in 2006 and it is the maximum pension fund that can be accumulated – any excess is taxed at the punitive rate of 55%. The LTA started at £1.5m and grew to £1.8m by 2011 but, since 2012, it has been reduced every two years - to £1.5m in 2012, to £1.25m in 2014 and it is reducing to £1m in April 2016.
Originally, those with pension pots in excess of the LTA were allowed to apply for Primary and Enhanced Protection thereby securing a higher personal LTA. Latterly, each time the LTA has been reduced, those with significant pension pots have been able to lock in the prevailing LTA by applying for Fixed Protection. However, a requirement of each type of protection is that no further pension contributions can be made and no new scheme can be joined or the protection will be lost.
Thus, when an individual who has previously secured a type of protection moves company, the act of joining the new Death in Service Scheme is the same as joining a new pension hence, on the first anniversary of the scheme when the membership is fully ratified, the protection will be lost.
Whilst the act is an innocent mistake, the problem can be compounded as it is the responsibility of the scheme member to notify HMRC that protection has been lost within 90 days of the breach and failure to do so could lead to a fine of a maximum of £300 and £60 a day thereafter.
However, the fine is of minor financial consequence when compared to the loss of the protected benefits. If an individual had secured Fixed Protection of £1.8m and joined a new DIS scheme at any time after April 2012, protection will have been lost and, from this April, their LTA will fall to £1m.
To try to quantify the error, let us assume that, on retirement, the individual’s pension fund is also valued at £1.8m. That individual will have lost the option to take 25% tax-free lump sum from the difference in LTAs (£1.8m - £1m = £800,000) which is £200,000 and there will be a 55% tax charge if they try to access the fund in excess of £1m.
This is an expensive mistake that could have been avoided if the new employer had set up the DIS under a separate trust. This type of policy is known as an Excepted scheme - the cost is the same as a registered scheme, the premiums are a deductible expense and the benefits are tax-free.
If you would like a review of your corporate benefits or you are moving jobs and need advice on your new package, contact LIFT-Financial as we have specialists who can deal with all your planning needs.