Pension lump sums
Looks at the lump sum payments that can be made from a private pension, such as the tax-free lump sum and the rules for small pots
The Government provides tax relief to support saving to produce an income in retirement. However, it also allows part or all of a pension to be taken as a lump sum in certain circumstances. Before April 2006, there were no fewer than eight different sets of tax rules in use for pensions, with different rules governing the circumstances in which lump sum payments could be made. However, the Finance Act 2004 introduced a single set of rules applying to saving in all kinds of pension schemes. These rules split benefits into authorised and unauthorised benefits. Unauthorised payments are subject to additional tax charges, such that HMRC does not expect many to be made. However, the amount and type of benefit an individual can receive depends on pension scheme rules.
Under the current rules, lump sums only count as authorised payments if specific circumstances. For example, there is the option of a tax-free pension commencement lump sum, usually 25% of an individual’s pot. There are also rules allowing small amounts of pension saving can be taken as a lump sum. Provided certain conditions are met:
• An individual aged 60 and over, with overall pension savings of less than £30,000 may be able to take them all in one lump sum – this is ‘trivial commutation’;
• Regardless of their total pension wealth, if they are aged 60 or over, they may be able take a ‘small pot’ worth less than £10,000 as a lump sum.
Increases to the thresholds for trivial commutation and small pots were announced in Budget 2014 and legislated for in the Finance Act 2014.
The Government is also consulting on proposals to introduce increased flexibility for people with defined contribution pension savings from April 2015. Under the new system, people aged over 55 would be able to withdraw their savings at a time of their choosing subject to their marginal rate of income tax (Budget 2014, para 1.165). These changes are to be legislated for in a Pension Tax Bill to be introduced to Parliament in the autumn. For more detail, see SN 6891 Flexibility for DC pension savers from April 2015.