A look at the lifetime allowance, the limit, the excess charge and other issues associated with benefit crystallisation events (BCEs).
- The lifetime allowance is currently set at £1,055,000 (2019/20) and increases in line with the Consumer Price Index (CPI).
- It has been possible to protect benefits with various transitional protections. FP16 and IP16 are still available for those individuals that still meet the criteria.
- There are various benefit crystallisation events (BCEs). These categorise the various ways benefits can be crystallised and test how much of the lifetime allowance has been used up.
- Where benefits exceed the lifetime allowance there is a lifetime allowance charge set at 55% if taken as a lump sum or 25% if taken as income.
What is the lifetime allowance?
The lifetime allowance:
- Is the limit for an individual on the tax privileged benefits that they can accrue within registered pension schemes without facing a lifetime allowance charge
- Is set at £1,055,000 (2019/20) and increases in line with the Consumer Price Index (CPI) on 6 April each year.
- Is tested when a Benefit Crystallisation Event (BCE) takes place which uses up some or all of an individual’s lifetime allowance. Any percentage given is normally round down to two decimal places (so that 25.556% would be rounded down to 25.55%)
Age 75 and the lifetime allowance
There are various BCEs that can occur, (for example taking pensions or lump sums), however all benefits, those not taken (uncrystallised) and those still invested in drawdown (crystallised) must be tested on the member’s 75th birthday.
How does the lifetime allowance charge work?
Excess benefits above the lifetime allowance will face a lifetime allowance charge.
This can be taken (before 75) in one of two ways:
- 55% if taken as a lump sum
- 25% if taken as income (plus income tax at marginal rates)
At age 75 benefits will be subject to a lifetime allowance test where any excess will be taxed at 25%.
What are the various benefit crystallisation events (BCEs)?
How benefits are valued for lifetime allowance purposes will depend on the type of BCE that takes place.
|BCE 1||Applies when money purchase funds are used to provide a member with a drawdown pension.|
|BCE 2||Applies when a member becomes entitled to a scheme pension from either a defined benefit (DB) scheme or money purchase arrangement, also known as a defined contribution (DC) scheme.|
|BCE 3||Applies when a scheme pension already in payment is increased above a permitted margin.|
|BCE 4||Applies when a member becomes entitled to a lifetime annuity under a money purchase arrangement.|
|BCE 5||Applies when a member of a defined benefit scheme reaches age 75 without having taken all of their entitlement to pension benefits.|
|BCE 5A||Applies when a member reaches their 75th birthday and is in receipt of an earlier designated drawdown fund and has not secured a lifetime annuity or scheme pension.|
|BCE 5B||Applies when a member reaches age 75 and has remaining unused funds in a money purchase arrangement.|
|BCE 5C||Applies to uncrystallised funds paid within the two year period available for payment to a dependant or nominee of the individual in the form of either a dependant or nominees flexi-access drawdown on or after 6 April 2015.|
|BCE 5D||Applies to unused uncrystallised funds paid within the two year period used to purchase either a dependant’s or nominee’s annuity where the individual dies on or after 3 December 2014.|
|BCE 6||Applies when a member becomes entitled to a relevant lump sum.|
|BCE 7||Applies when a relevant lump sum death benefit is paid upon death of a member. If death benefits are paid in the form of a dependant’s pension, the lifetime allowance test is not triggered.|
|BCE 8||Applies upon transfer to a Qualifying Recognised Overseas Pension Scheme (QROPS).|
|BCE 9||Applies when payments are made to a member which constitute an event prescribed in regulations.|
What about pre-commencement pensions?
These are pension benefits relating to UK tax approved pension schemes that were in payment prior to 6 April 2006 (also known as A-Day)
Pre a-day pensions in payment (either dc or db):
- These are valued against the lifetime allowance at 25 times the yearly pension in the year of the first BCE.
Pre a-day capped drawdown:
- If first BCE is between 06 April 2006 and 05 April 2015:
- the pre A-Day capped drawdown is valued using the maximum GAD* rate multiplied by 25.
- If the first BCE is after 05 April 2015:
- the pre A-Day capped drawdown is valued using the maximum GAD* rate, multiplied by 80% and then multiplied by 25.
* Government’s Actuarial Department set the rates with which the maximum income is calculated that a client can take out.
Things to consider:
- Be careful that existing transitional protections aren’t lost, such as through auto-enrolment or on transfer.
- Both Fixed and Individual Protection 2016 are still available for clients that can meet the criteria.
- Monitoring and managing any growth in drawdown in the years prior to reaching age 75. Any growth is tested against the lifetime allowance at age 75, however, this growth can be taken as income prior to this test, which may have tax advantages for some individuals.
- Commutation factors for defined benefit schemes may , in some cases, lessen the impact of the lifetime allowance, thereby potentially avoiding or reducing a lifetime allowance charge.
- Prioritising which benefits to crystallise first, such as the order of the BCEs, when benefits are in excess of the lifetime allowance so that the most valuable benefits are taken first.
This document is based on Canada Life’s understanding of applicable UK tax legislation and current HM Revenue & Custom’s practice, as at April 2019 and could be subject to change in the future. It is provided for professional advisers only. Any recommendations are the adviser’s sole responsibility.