Pension reform threatens protected tax free cash

Skandia has called on HMRC to clarify whether pre-A-Day tax free cash will be protected when the new lifetime allowance (LTA) on pension contributions comes into effect in April 2012.

The 2006 A-day rules allowed investors to take 25% of their pension as tax free cash, but any existing schemes that offered more than 25% as a tax free lump sum could be protected.

This protected amount increased in line with the LTA, which rose by 20% from £1.5m to £1.8m in 2010.

However, the government's plans to reduce the LTA to £1.5m from April 2012, could wipe out any increase expected in protected tax free cash, Skandia warns.

This could mean ‘dramatic' change for people over 55, as they would have to take their pension before April 2012 to protect their higher tax free cash entitlement, whether or not they need or are ready for the income.

"The government has recognised that protection needs to be given to people who have built up significant funds in their pension so that they do not incur penalties when the lifetime allowance is reduced," says Adrian Walker, head of retirement planning at Skandia.

"However, similar actions are required for those who have protected tax free cash.

"A reduction in tax free cash for many individuals with pre-A-day occupational pension schemes would be an unintended consequence of the most recent proposals and we have urged HMRC to reconsider this point before announcing the final rules."