When individuals start to take benefits (a BCE) there is a test against their available LTA. Once an individual has used up all their lifetime allowance they are subject to a lifetime allowance charge on any further benefits crystallised.

Some individuals may have funded their pension, not unreasonably, on the basis that the lifetime allowance would be at least £1.8 million. For these individuals the reduction in the lifetime allowance to £1.5 million will mean that they could face a sizeable tax charge on the portion of their pension rights they have accrued above the reduced lifetime allowance. In recognition of this, the government introduced 'fixed protection' which allowed a member to protect themselves from a lifetime allowance charge if their benefit value does not exceed £1.8million provided the member registered for this protection by 5 April 2012.

For individuals with primary or enhanced protection, even though the level of the lifetime allowance has gone down, their level of protection will not.

The maximum lump sum that can be provided is equal to the lesser of 25% of the member’s scheme rights and 25% of their available lifetime allowance. Individuals without any form of protection who have pension rights in excess of £1.5 million will therefore see a reduction in the tax-free cash lump sum maximum that they could possibly take.

Scheme specific lump sum protection

Individuals with scheme specific tax-free cash protection, where their A-Day lump sum rights exceeded 25%, have part of their protected lump sum calculated with reference to the increase in the lifetime allowance. The amount of the protected lump sum did not go down when the lifetime allowance fell to £1.5 million but will continue to be calculated using a lifetime allowance of £1.8 million ie an uplift of 20% of their A-Day lump sum cash rights still apply. However, that is only part of the calculation. The other part of the calculation also allows 25% of 'A-Day fund growth' to be paid in addition. For individuals who do not have fixed protection, the calculation of 'A-Day fund growth' takes into account the increase in the standard lifetime allowance since A-day to date. Whereas for those with fixed protection, 'A-day fund growth' takes account of the growth in the lifetime allowance based on an underpinned lifetime allowance of £1.8m. This means that individuals who do not have fixed protection will potentially benefit from greater TFC than would have been the case had they taken their TFC before the 6th April 2012. Individuals with fixed protection will see no change. The following examples illustrate the implication:

Example – No fixed protection

On the 6 April 2006 Terry’s total pension rights amounted to £200,000. From this amount he could take £80,000 as a tax-free lump sum. As this exceeded 25% of the value of the fund Terry qualified for scheme specific tax-free cash protection. By the tax year 2012/13 Terry’s pension rights had increased to £300,000, at which point he decides to take benefits. Terry does not have fixed protection. His maximum tax-free cash lump sum is:

• The £80,000 A-Day tax-free cash increased by the increase in the lifetime allowance (assuming LTA of £1.8 million) = £96,000, plus
• 25% of any increase in the value of his pension scheme since 6 April 2006 above the increase in the standard lifetime allowance (SLTA from the 6th April 2012 is £1.5m) £300,000 – £200,000 x (1.5/1.5) x 0.25 = £25,000
• Total = £121,000

Example – Fixed protection

For individuals with fixed protection the A-day fund value will continue to be uplifted assuming an underpinned lifetime allowance of £1.8m. Using the example above but for an individual with fixed protection we get the following:

• The £80,000 A-Day tax-free cash increased by the increase in the lifetime allowance (assuming LTA of £1.8 million) = £96,000, plus
• 25% of any increase in the value of his pension scheme since 6 April 2006 above the increase in the LTA (assuming underpinned LTA of £1.8 million)
  £300,000 – £200,000 x (1.8/1.5) x 0.25 = £15,000
• Total = £111,000

Protected tax-free cash under enhanced protection

Individuals with A-Day lump sum rights in excess of £375,000 who applied for enhanced protection will have a maximum tax-free cash percentage that they can take from each of their schemes. This percentage will be detailed on their enhanced protection certificate. The reduction in the lifetime allowance will have no impact on these individuals as there is no direct link to their lifetime allowance.

Protected tax-free cash under primary protection

There will be no affect on lump sum rights for individuals with this protection. If an individual had lump sum protection under primary protection their lump sum rights were detailed as an A-Day cash value on their primary protection certificate. The amount of the lump sum protection increases with the lifetime allowance. For the purpose of the calculation, the lifetime allowance is assumed to be £1.8 million.

Individuals with enhanced or primary protection without lump sum protection

For these individuals, the maximum lump sum will be calculated as the lower of 25% of your pension rights and 25% of the reduced lifetime allowance of £1.5 million. Consequently, the maximum possible amount of tax-free cash that these individuals can take will have fallen, unless scheme specific protection applies.

Up until the 5 April 2012 the trivial lump sum commutation limit was 1% of the standard LTA. From 6 April 2012 the link to the Standard LTA was broken and the trivial commutation limit is £18,000.