Enhanced protection was introduced for those who at 5 April 2006 expected their pension savings to be over the newly introduced Lifetime Allowance (LTA) at the point they expected to retire and wanted to avoid paying a LTA charge.
- What is enhanced protection?
- Who was enhanced protection aimed at?
- Surrender of excess rights
- Losing enhanced protection
- What happens when enhanced protection is lost?
- Enhanced Protection and Pension Debits
- Enhanced Protection and Auto-enrolment
Anyone could apply for enhanced protection, regardless of the value of their funds, until 5 April 2009. It has the effect of eliminating any lifetime allowance charge, so effectively a member could take an unlimited amount from their pension arrangements post April 2006.
Providing enhanced protection is not lost or revoked, then no test against the LTA needs to occur and there will never be a lifetime allowance charge payable.
It was possible to make contributions and have benefit accrual up until 5th April 2006.
The benefit of having enhanced protection is detailed below:
It was also possible to have enhanced protection over tax free cash. This is covered in Tax-Free Cash and Protection article.
Enhanced protection was aimed at:
- anyone in a defined benefit or cash balance scheme who would not accrue benefits above a specified level or
- anyone in a money purchase scheme if no contributions were to be paid after 5 April 2006
who expected their benefits to be in excess of the standard lifetime allowance when taken.
Before a member could apply to HMRC for enhanced protection they had to surrender any excess rights.
Excess rights were that part of the member's funds attributable to benefits that exceeded the maximum permitted under the pre A-day rules.
- under a pension sharing order
- to provide an increased pension to a dependant
- by transferring to another arrangement
- by an assignment
- by giving up rights held prospectively by the member as a dependant of a scheme member
The excess may have been:
- paid to a sponsoring employer, providing this was allowed under the Authorised Surplus Payments Regulations; or
- refunded to the member if the excess benefits were AVCs
Examples of where enhanced protection may be lost are;
- if there is any 'relevant benefit accrual'
- if a new arrangement is set up for the member (except in the case of certain transfers)
- some transfers
The member must inform HMRC if they lose enhanced protection. They must do this within 90 days or they are liable to a penalty of up to £3,000.
Alternatively, the member can notify HMRC that they no longer wish to rely on enhanced Protection (The Registered Pension Schemes (Enhanced Lifetime Allowance) Regulations 2006).
Enhanced protection is lost if relevant benefit accrual occurred after 6 April 2006.
For money purchase schemes this means that no contributions can be made by the member or anyone else, including the member's employer. There are exceptions for National Insurance rebates, minimum contracting out contributions and some compensation payments. In addition certain contributions to life assurance policies providing death benefits if they were established pre April 2006 do not count as contributions.
For defined benefit schemes the test to see if relevant benefit accrual has occurred is not performed until:
- the member crystallises benefits from the arrangement; or
- a permitted transfer is made to a money purchase arrangement.
The amount crystallised or transfer value paid is then compared to the 'appropriate limit'.
The 'appropriate limit' is the greater of:
- the indexed amount or
- the earnings recalculation amount.
The indexed amount is calculated by taking the value of the benefits at 5th April 2006 and increasing it by the greater of 5% or RPI (there is a different increase percentage for the contracted out benefits - see SI 2006/130).
The earnings recalculation amount is calculated by taking the value of the benefits at 5 April 2006 and recalculating them using post 6 April 2006 earnings.
In practice, any member with enhanced protection who is active within a defined benefit scheme after 6 April 2006 will lose enhanced protection once their benefits crystallise as the benefits that they would have accrued after April 2006 will be in excess of the above limits. Any deferred member of a defined benefit scheme will have their deferred benefits increased each year, usually in line with the statutory minimum, which would mean that the value of their benefits remain within the 5% or RPI limit.
Enhanced Protection is lost if a new arrangement is set up for the member other than to accept a permitted transfer (see below).
This could happen where an arrangement was created to accept a pension credit on the divorce of an individual.
1. Transfer which are not a 'permitted transfer'.
A transfer that is not a permitted transfer will result in the loss of enhanced protection.
A permitted transfer is:
- where all pension rights relating to the individual under the scheme (not arrangement) are transferred;
- the sums are transferred to form assets under a registered money purchase arrangement or a recognised overseas scheme;
- the sums are transferred to a defined benefit/cash balance arrangement but ONLY if the originating arrangement was defined benefit/cash balance arrangement and was winding up and the receiving arrangement relates to the same employment as the originating one;
- the sums are transferred to an insurance company and used to purchase a scheme pension (so benefits have crystallised) as a result of the scheme winding up; and
- where defined benefit or cash balance rights are transferred to a money purchase arrangement and the rights in the new scheme are actuarially equivalent to the rights being transferred.
2. The arrangement receives an impermissible transfer.
An impermissible transfer made into an arrangement results in the loss of enhanced protection.
The following are impermissible transfers into a money purchase arrangement:
- a transfer of sums from a registered arrangement not relating to the individual (except as a result of a pension sharing order);
- a transfer from a non registered scheme; and
- the payment of a Transfer Lump Sum Death Benefit into the individual's arrangement
If a defined benefit or cash balance scheme became a money purchase arrangement after 6th April 2006 or a hybrid scheme accepts one of the above types of transfer and the arrangement later becomes a money purchase arrangement, then this would be classed as an impermissible transfer.
When enhanced protection is lost:
- any future benefit crystallisation events (BCE) may be subject to a lifetime allowance charge
- if the member also has dormant primary protection i.e. they held both protections, they would revert to primary protection
- if there is no dormant primary they would revert to standard rule
- tax free cash would be up to 25% of the available standard lifetime allowance or any scheme specific entitlement where this applied (link to scheme specific TFC protection).
At any BCE after cessation of enhanced protection, the amount of the available lifetime allowance under section 219 Finance Act 2004 is calculated in the usual way (even though the member had enhanced protection, the scheme administrator will still have given them the amount of standard lifetime allowance used at any BCE).
Any earlier BCE that had occurred with the benefit of enhanced protection does not need to be revisited.
As stated above, any contribution or benefit accrual occurring after 6 April 2006 for a member with enhanced protection will result in the loss of enhanced protection.
However, if the member is in a defined benefit or cash balance arrangement and subject to a pension debit after 6 April 2006, they may be able to rebuild their pension rights without losing enhanced protection. This is because accrual is based on increase in benefits not actual contributions made.
As the relevant benefit accrual test for these arrangements is not performed until a BCE takes place, it is only at that point i.e. when the 'appropriate limit' is tested (see Losing enhanced protection above), when it is determined whether enhanced protection has been lost due to rebuilding pension debit rights. However there is a risk that when benefits come into payment they will be more than the allowable amount and enhanced protection may be lost.
As any contribution into a money purchase arrangement, that is not cash balance, constitutes 'relevant benefit accrual', it is not possible for the member to rebuild their pension rights following a pension debit.
The concept of auto-enrolment was introduced in the Pensions Act 2008. The first employees started to be auto-enrolled from October 2012. If an employee has enhanced protection and they are auto-enrolled then they will have to opt out within the one month opt out period or else they will lose enhanced protection as this would be a contribution to a pension scheme.
Further information - RPSM on enhanced protection.