ACA: HMRC must give greater clarity to avoid "pensions limbo" for DB schemes and members

The concerns were raised after HM Treasury’s publication of technical tax documents last week covering the dismantling of the lifetime allowance (LTA) by 6 April 2024.

The drafts released on 18 July would remove the limit on the size of authorised lump sums, enabling cash outs of well in excess of 25 per cent and comparable with current tax treatment for defined contribution schemes.    

HMRC has since clarified that the drafting was “designed to accommodate the absence of the lifetime allowance excess lump sum and [welcome responses from all stakeholders as to] whether restrictions may be necessary to prevent any unforeseen impact”.  

Further HMRC notes “it is not the government’s intention to significantly expand pension freedoms”.  

The clarification is welcome, said the ACA, but until HMRC clarifies its intentions, these documents have created a “tax limbo” for defined benefit schemes and their members.

ACA chair Steven Taylor said: “As released, the draft legislation would represent a massive expansion of Freedom and Choice from the DC to the DB world.  

“Were such a major policy change actually being considered, it would need a formal consultation, including bringing in member safeguards (including advice requirements) parallel to those that apply for DB members seeking to access DC flexibilities.  

“We therefore welcome the clarification and look forward to helping government modify the drafted proposals to avoid unintended consequences, on this core part of benefit structure for members – as well as for other areas in the project.”

More active engagement needed

Karen Goldschmidt, ACA pensions tax committee chair, added: “HMRC has released proposals (and drafts) for some key elements – and based on what we have seen it does look like it may bring in a simpler regime and, if anything, fewer complex rules on benefits. 

“But for some areas we do not yet know policy intent – including, now, to some extent, this one on scope for retirement cash.” 

This creates considerable uncertainty until HMRC makes clear its favoured approach, the consultation for which ends on 12 September.

HMRC must be “very interactive over the summer” if a workable outline of a system is to be agreed in time to be implemented by schemes by 6 April 2024, said Goldschmidt.

She added: “What might sound like a technical rewrite isn’t just a matter of structures and systems, it potentially impacts benefits to – and planning of – members, as well as trustee and employer policies.”

Simon Kew, head of market engagement at independent consultancy Broadstone, said: “Last week’s HMRC document on abolishing lifetime allowance appears to have thrown an unwanted cat amongst the pigeons, particularly in relation to the ‘tax-free lump sum’ and a potential, unintended extension to the ‘freedom and choice’ regime.

“This was a tax change that would inevitably bring challenges in its administration and it is positive that HMRC has clarified its intentions but evidently must be careful as the proposals progress to avoid any further problematic foibles of the tax regime. 

“As ever, the security and financial confidence of pension scheme members must be maintained at all costs.”

Not the first time…

Last week, Steve Webb, a partner at LCP warned he had discovered a “tax bombshell” that suggested the government intended to “backtrack on the ability to inherit pension pots tax-free”.

This was the rule in place since 2015 that made it possible to inherit a pension pot free of both inheritance tax and income tax, where the person who bequeathed it died under the age of 75.

However, the changes outlined in the consultation documents could result in ordinary taxpayers paying income tax where they inherit an untouched pension pot.   

The consultation is largely focused on the necessary changes to abolish the LTA. The LTA is normally only a concern for those with large pension pots, but the new proposals would apply to anyone who inherited an untouched pension who died under the age of 75, regardless of its size. If implemented, the change takes effect from April 2024.

Webb said of the proposed changes: “This tax advantage risks being abolished by next April if these new proposals are implemented. 

“It would be totally unacceptable to make such a big change ‘through the back door’. If ministers plan to remove this pension tax break they should announce their plans publicly and have them properly debated.”