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Pensions Bulletin 2023/13

Our viewpoint

Finance Bill clauses to implement the first stage of LTA/AA/PCLS tax changes

The Finance (No. 2) Bill, published on 23 March 2023, contains the proposed new clauses to implement the first stage of the two-phase overhaul to the Lifetime Allowance (LTA), Annual Allowance (AA) and tax-free cash sum (PCLS), as announced in the Budget (see our News Alert which also covered HMRC's Newsletter 148).  The details are in Clauses 18-23.

Clauses 20-22, that increase the Annual Allowance, Money Purchase Annual Allowance and adjust the Annual Allowance taper for 2023/24 onwards, seem straightforward.

Clause 18 contains a simple statement of the abolition of the LTA charge from 6 April 2023 – but of course the LTA itself continues until Phase Two.

Clause 19 deals with the fact that, in relation to certain lump sums that are mostly tax free, where there would have been a 55% charge to the extent that they exceed the member’s remaining LTA, that charge will now switch to tax as if that lump sum is pension income for the recipient(s).  While apparently easy to legislate, this is a more complex area in practice (see the article below).

There is no mention in the Bill of the proposed permanent frozen general cap of £268,275 on tax-free cash (PCLS) as announced by the Chancellor, but this is because in general the current legislation will do an adequate job for policy purposes until Phase Two.  In particular there is no change to the restriction that the maximum level of tax-free cash that can be taken from any pension scheme is usually 25% of the HMRC value of the benefits being crystallised in that pension scheme.

Clause 23 gives better clarity on preservation of certain LTA protections.  Its main purpose is to ensure that anyone who applied for, before Budget Day (15 March 2023), and holds, on 5 April 2023, any of Enhanced Protection or the Fixed Protections from 2012, 2014 or 2016, is protected from losing them if they contribute to, join, or transfer to, a pension scheme on or after 6 April 2023.  The clause operates by restricting the conditions under which the protection is lost so that they no longer apply to those in the group described in the previous sentence.  But this does mean that these conditions will still operate for those who make a valid protection request on or after Budget Day – a point made clear and illustrated further in the HMRC newsletter (see article below).

The same clause also seeks to prevent any further build-up of tax-free cash in two protection cases:

  • For Enhanced Protection with Lump Sum Protection – the PCLS in future will be limited to no more than the amount that could have been paid on 5 April 2023 where this is lower than the normal maximum protected PCLS that will otherwise apply
  • For any “stand-alone lump sum” provision – the lump sum in future will be no more than the amount that could have been paid on 5 April 2023, calculated as if the member had reached normal minimum pension age at this point. We see problem areas here that we hope will be resolved

Comment

The Bill clauses are short in length but have a big impact in “Phase One”.  However, there may well need to be corrections given that this legislation has not had time for consultation.

The bigger design and legislation challenge will come as Government works on “Phase Two” with the intended abolition of the LTA promised for 6 April 2024 onwards (the challenge being the central place it occupies in the legislative framework), whilst creating a process that ensures that the new lid is kept on tax-free cash.

And we have to keep in mind the possibility of reverses or other changes given the statements made by the Labour Party (see our News Alert for more on this).

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HMRC issues Lifetime Allowance guidance

On 27 March 2023 HMRC published (and then immediately republished with a slight correction) the first in what is likely to be a new series of newsletters that looks into some of the practical issues arising from the Budget announcements relating to the Lifetime Allowance (see Pensions Bulletin 2023/11).

This newsletter is of particular interest because it deals with some immediate changes in tax on 6 April 2023.  It is addressed to pensions administrators, but the processes may raise issues for trustees too.

The guidance reconfirms that, from 6 April 2023 and ahead of the future abolition of the Lifetime Allowance, LTA checks and member reporting will continue to operate ahead of paying benefits, through the current benefit crystallisation event (BCE) regime, and that all current BCE rules (ie those in place at March 2023) continue to apply for any BCE occurring before 6 April 2023.

There is a section that deals with existing enhancements to tax-free lump sums (PCLS) that operate through various LTA protections.  One set of examples is for the Fixed Protections suite: in principle the Bill wording means that the process of calculating maximum scope for PCLS is unchanged (which we would broadly describe as 25% of the HMRC value of the benefit package being delivered, or if lower 25% of the remainder of the member's LTA as enhanced by holding FP).  The examples highlight the subtleties arising from whether the member applied successfully for protection before 15 March 2023, or on or after – and hence whether post 5 April 2023 contributions or accrual etc was “safe”, or meant that FP was lost and the standard LTA should be used.

The other set of examples focusses on members with Enhanced Protection with protected lump sum rights – and how the Bill will be introducing a new frozen capped value as a ceiling to the existing formula, to be determined as at 5 April 2023.  HMRC asks administrators to be prepared to provide members with a valuation as at this date.  There is no statutory obligation in law to do this, but without this information at the point the member retires, schemes will not know the cap on the individual’s scope for PCLS; this has some problematic aspects.

The section that deals with lump sum taxation highlights required changes to existing administration processes as a direct result of the 55% tax charge being replaced with income tax being paid at the recipient’s marginal rate noted in the Bill article above.  This is of particular concern where death benefits are being paid.  See the separate article on this.

The newsletter concludes by promising the publication, on 6 April 2023, of updated member guidance, and further updates on the LTA changes through future newsletters.

Comment

Phase One is meant to be the easier part of the reforms, but already a number of difficulties are coming to the fore.  In relation to Phase Two, HMRC asks in its newsletter whether anyone would like to join an LTA working group to assist HMRC as it works through the detail of delivering the full abolition of the Lifetime Allowance for 2024/25.  There will be plenty of challenges there!

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Concerns raised on new process for death benefit lump sums

In its Lifetime Allowance guidance HMRC says the process for registered pension schemes paying lump sum death benefits will change from 6 April 2023, as part of the changes to remove the LTA tax charge.

The background is that - as noted above - in relation to the two key types of death benefit lump sums, there will continue to be a tax charge where total death lump sums being paid out across registered schemes exceed the member’s remaining LTA at death – but the charge on the excess will be income tax on the recipient(s) rather than 55%.

Under the old process, registered schemes pay out these death lump sums gross (normally by bank transfer), and then the deceased’s personal representative identifies if there is an LTA excess and, if there is, interacts with HMRC so that HMRC can collect the LTA charge due from recipients.

Under the revised process as described in the Newsletter, pension scheme administrators will instead have to involve the personal representative upfront in carrying out LTA checks, and the scheme will then deduct any income tax due under PAYE, processing the payment through payroll.  These LTA checks will be required on any of these death lump sums payable from registered pension schemes, however large or small the amount, and no payment can be made until the information is obtained.  The need to process payments through payroll may also extend the process.

Comment

We are concerned that this new process will create significant additional work for administrators and cause material delays in paying any lump sum death benefits out from 6 April 2023.  We, as well as others in the pensions industry, have raised concerns with HMRC about the revised approach.  We hope this means that changes will be made to simplify the proposed approach before it comes into force.

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Finance Bill provides for top-up payments for low earners contributing via net pay arrangements

Clause 25 of the Finance (No. 2) Bill places a duty on HMRC to make top-up payments directly to individuals whose personal contributions to occupational pension schemes operate under the net pay arrangement method.  These top-up payments will only be made to those individuals whose total taxable income in a tax year is below their personal allowance.  The aim is to end the tax disadvantage for such individuals compared to low earners contributing to schemes that operate the relief at source method.

The clause will come into force for 2024/25 onwards and the intention is that in the next tax year HMRC will notify those who are eligible and invite them to provide the necessary details for the top-up to be paid direct to their bank account.  A little more on the planned process appears in HMRC’s Pensions schemes newsletter 148.

This Bill clause was consulted on last July (see Pensions Bulletin 2022/29).  Although structurally it is very much as before, it is now the individual’s “total income” that is measured against the personal allowance to assess whether the individual qualifies for a top-up and in order to work out the amount of the top-up, rather than their “employment income” (so picking up, for example, self-employment income).  The clause has also been extended so that an individual can decline to receive the HMRC payment.

Comment

We look forward to seeing more details on the process in practice for individuals.  There will be practical points (not least the interaction with means testing) – HMRC has made clear the challenges to their setting up the systems to do this.

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Finance Bill resolves CDC scheme winding up issue

Clause 24 of the Finance (No. 2) Bill provides that a collective money purchase scheme may pay “CMP periodic income” whilst the scheme is winding up.  It also enables such a scheme to transfer to another scheme the assets backing payment of such income so that “CMP-derived drawdown pension” may be paid from the new scheme.  Finally, it ensures that any CMP periodic income that, as a result of a member’s death, becomes payable to dependants, is ignored for the purposes of certain dependants’ scheme pension restrictions.

This Bill clause was consulted on last July (see Pensions Bulletin 2022/29) and although there have been a number of changes, they appear to be of a technical nature to ensure that the original policy intent is delivered.

Comment

This should resolve a concern that certain payments and transfers from CDC schemes, permitted under DWP law, were not authorised under HMRC law.

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Finance Bill tackles reclaim of transferred dormant assets

Clause 347 of the Finance (No. 2) Bill contains the necessary adjustments to pensions tax law, where pension assets, transferred under the Dormant Assets Scheme, are reclaimable by their owners.  This clause was consulted on last July (see Pensions Bulletin 2022/29) and doesn’t seem to have changed since then.

As before, the clause ensures that such payments (ie from an authorised reclaim fund) are treated for income tax purposes as if they were from the pension asset that was initially transferred.  It also ensures that where an asset has been transferred to an authorised reclaim fund and its owner was alive at the time but subsequently dies before the asset has been reclaimed, the owner will be treated for inheritance tax purposes as still owning the original asset.

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LCP responds as DWP consultation season closes

On 27 March 2023 the deadline passed for three important consultations from the DWP and LCP has been active in drawing up our responses to them and assisting others with their submissions.  Set out below is a brief summary of our thoughts.

CDC schemes

First, a call for evidence (see Pensions Bulletin 2023/04) on extending the current CDC law to accommodate unconnected multi-employer schemes, including those set up on a commercial basis, plus on the possibility of CDC schemes acting as decumulation-only vehicles.

We welcome the Government’s intention to enable a far broader set of CDC schemes with potential to benefit many millions of today’s savers.  The scheme design proposals set out in the consultation align with wider industry discussions over the past year, and we believe only relatively minor legislative and regulatory changes are needed to enable successful launch of sectorial multi-employer schemes.  However, there are potentially some additional complexities for commercial and decumulation-only CDC schemes, which may require further regulatory consideration.

DC value for money framework

Second, the DWP’s joint consultation with others (see Pensions Bulletin 2023/04) on developing a value for money (VFM) framework.

In our response we supported the introduction of a VFM framework whilst noting that it is important that it does not become another layer of compliance for DC schemes.  We also strongly believe that there is no need for both the VFM framework and Annual Chair’s Governance Statements.

As the consultation drew to a close the Regulator published a blog in which Sarah Smart sought to clarify some elements of its proposed approach to VFM assessment.  And in his valedictory blog, outgoing Chief Executive Charles Counsell, wrote about the separate DC value for money initiative in the context of the Regulator seeking to become a more “data-led, digitally-enabled organisation”.

DC small pots

Finally, the call for evidence (see Pensions Bulletin 2023/04) on the problem of small deferred pots.  Whilst we welcome the Government stepping back in on this issue, a solution is long overdue to this problem.  We believe that a pragmatic solution needs to be introduced as quickly as possible, although this may still mean several years from now.

Copies of our responses to these consultations are available to our clients on request.

Comment

The DWP issued several consultations on 30 January and the deadline for responding has now passed.  We welcome the Pensions Minister’s drive to progress these matters and hope that we will hear more from the DWP sooner rather than later.

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TCFD reporting – helpful Regulator review of first wave reports

The Pensions Regulator has published its review of the first wave of TCFD (taskforce on climate-related financial disclosures) reports which includes some important pointers for both “tranche one” schemes (master trusts and relevant assets of £5bn or more) carrying out their second reports and “tranche two” schemes (more than £1bn) carrying out their first.  The Regulator’s report may also be of interest to smaller schemes not currently in scope of the requirements (see our Briefing Note for more detail).

The Regulator notes that “Although this is a new and emerging area for trustees our review found a great deal of emerging good practice. However, we also identified several areas for improvement trustees should take note of”.

The Regulator acknowledges that there has been a steep learning curve for trustees in preparing these reports and also challenges relating to data.  For each of the TCFD reporting areas (governance, strategy and scenario analysis, risk management, metrics and targets), the review sets out:

  • Required information that was often missing, for example the potential impact of climate-related risks on the scheme’s investment and funding strategies (as opposed to asset and fund values) and the trustees’ assessment of how climate change could impact the employer covenant
  • Other areas for improvement, including meeting reader accessibility requirements, providing sufficient background information on the scheme, and disclosing the frequency and extent of climate change risk discussion by the trustees
  • Observed good practice

It will be important for trustees to be familiar with the areas for improvement noted by the Regulator.

Of the 71 reports reviewed:

  • Reports ranged from 10 to 85 pages in length, with 34 being the average
  • Short-term was defined by trustees as 1-10 years, medium-term as 6-30 years, and long-term as 10-78 years
  • The most popular “third metric” was data quality (29 schemes), followed by portfolio alignment (18 schemes)
  • Emissions targets were set by 30 schemes and targets to improve data quality by 19 schemes

The report also highlights the prevalence of schemes that had set net zero targets, with 43 of the 71 reports including such a target.  The Regulator notes that, while there is no requirement for trustees to set a net zero target, they are welcomed, and it expects to see more detailed transition plans in the future as trustees’ understanding of how to approach the transition to net zero increases.

Comment

This review will be very helpful for those involved in the preparation of upcoming TCFD reports and will assist in their refinement and improvement.  The review clarifies the Regulator’s expectations in an area where market practice is at an early stage of development and we are pleased to see that the focus is on raising standards rather than box-ticking compliance.

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Pensions Regulator issues EDI guidance

The Pensions Regulator has launched its guidance on equality, diversity and inclusion (EDI) for occupational pension schemes.  There is separate guidance for trustees and employers together with an overview.

The guidance was developed with an industry working group and was one the actions promised in this area (see Pensions Bulletin 2022/43).

The trustee guidance covers a wide range of EDI activities and priorities, including EDI training and the development of an EDI policy together with review and performance assessments.

Trustees are also encouraged to review the diversity of their board composition, including succession planning for the chair, whose role in driving EDI forward is emphasised.

The employer guidance focuses on trustee recruitment encouraging employers to keep EDI in mind when appointing trustees.  Where professional trustee services are being tendered for, some EDI considerations for the tender process are set out, for example that the professional trustee has an EDI policy.

The employer guidance also contains a reminder about employers’ duties under the Equality Act 2020 and also Employment Rights Act protections for member trustees regarding time off and prohibiting victimisation.

The Regulator has also added a section on inclusive communications to its guidance on communicating and reporting for defined contribution schemes.

Comment

This is quite a cautious piece of guidance from the Regulator, no doubt reflective of the fact that no particular legal or regulatory provisions are engaged on many of the suggestions being made.  We expect trustees and employers to move at different speeds to embrace this guidance.

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Pensions Regulator to check up on value for money assessments

The Pensions Regulator is to check that trustees of DC schemes with total assets of less than £100m which have been operating for more than three years are complying with regulations that came into force on 1 October 2021 requiring them to carry out and report on an annual value for money assessment starting from the first scheme year that ends after 31 December 2021 (see Pensions Bulletin 2021/40).  This follows a survey carried out in 2022 that found only 17% of schemes required to complete the assessment had done so, and that 64% were unaware of their statutory obligation to do so.  The Regulator plans to publish this survey later this year.

Schemes will be selected for contact using a “data led approach”, with the Regulator checking that those who failed to carry out the assessment have plans in place to improve.  Where improvements cannot be evidenced, the Regulator will ultimately expect trustees to wind up and consolidate into a better run scheme.

Final planning for this initiative is underway and trustees of selected schemes will be contacted later this year.

Comment

The high percentage of schemes in scope of this requirement that are as yet unaware of their obligations highlights the need for this new initiative from the Regulator.  This initiative is separate to the joint proposal on VFM recently consulted on (see article on consultation responses above).

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ERI – trustees given suspended prison sentences

The Pensions Regulator has continued with its latest theme of employer-related investment (ERI) transgressions by publishing a regulatory intervention report that explains how two trustees made illegal loans from a very small DB scheme to the sponsoring employer (of whom they were also directors).  At their subsequent appearance at Leeds Crown Court, on pleading guilty on two counts of prohibited ERIs, they were sentenced to 16 months’ imprisonment, suspended for two years, and given 250 hours of community work each.

Not only did the two trustees make illegal loans; it also appears that they tried to mislead the Regulator when they attended voluntary interviews.  However, the story has a happy ending as the two directors stepped down as trustees, an independent trustee was appointed and, thanks to a significant employer contribution, made possible by the directors reversing the illegal transactions, the scheme became fully funded.

This report comes shortly after the Regulator published its ERI guidance (see Pensions Bulletin 2023/10).

Comment

This was a clear breach of the ERI legislation, and the suggestion is that the individuals concerned acted for their own benefit in removing money from the pension scheme.  This plus allegedly providing false or misleading information to the Regulator (a charge which remains on file) meant that the Regulator had little choice but to take the matter to Court.

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FRC transformation timetable not clear

The Financial Reporting Council has finalised its three-year plan for 2023/26, following publication last December of a draft (see Pensions Bulletin 2022/47).  The plan continues to assume that the Audit, Reporting and Governance Authority (ARGA) will be in place by April 2024, but unlike the draft, the FRC now says that there is “some doubt over this date also”.  The FRC promises to communicate any changes to its planning assumptions “when the timetable becomes clearer”.  In the meantime, the FRC intends to publish an updated workplan and timeline of its intended activities shortly.

Comment

There remains no sign from the Government of the promised and necessary Audit Reform Bill to transform the FRC into ARGA, or for that matter what priorities the newly-formed Department for Business and Trade, which is likely to be sponsoring this Bill, is pursuing.  Even the Department’s ministerial responsibilities have yet to be filled in!

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Pension Contributions Bill withdrawn

The Private Members’ Bill proposed by Conservative MP Anthony Browne with the aim of requiring employers to pay pension contributions into a pension scheme of the employee’s choosing where they opt out of their company scheme (see Pensions Bulletin 2023/10) was withdrawn on 21 March 2023 without having been published.

Comment

The withdrawal of this Bill is not a surprise, but it is a shame that it was neither seen nor debated.  Although we have no further detail as to why it was withdrawn, many employers will likely breathe a sigh of relief that they will not at this time need to consider the implications of the proposed single lifetime provider approach to retirement provision that this Bill promoted.

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