Things you may not know about PCLS

Andy Zanelli takes us through the complex world of enhanced and primary PCLS protection

I wrote recently of ten important things to know about pension commencement lump sum (PCLS) protection, but notably only covered scheme-specific and standalone lump sums. However, there is a third form of PCLS protection that is arguably more complicated and more important as it affects clients with the biggest funds - enhanced and primary protected PCLS. From what follows you will note that there are a number of factors to consider, but with the appropriate knowledge, careful planning and foresight, it is possible to make sure that not only is the client's PCLS maximised but flexibility is maintained with regard to the remaining fund. The following ten questions should help identify those clients affected:

1. What is enhanced and primary protected PCLS?
It is where the client has enhanced and/or primary fund protection and the value of the lump sum rights were greater than £375,000 at A-Day. As a reminder, primary fund protection was only allowed on funds in excess of £1.5m at A-Day and enhanced fund protection was allowed on a fund of any size.

2. What was the level of enhanced PCLS at A-Day and what is it now?
Assuming that enhanced fund protection has been granted and the lump sum entitlement at A-Day was in excess of £375,000 the enhanced PCLS would have been expressed as a percentage of the fund at that time. The protected PCLS at any time in the future will be the same percentage of the fund. So, if the fund has increased in value the protected PCLS would also have increased in value, but if the fund has gone down so has the PCLS.

3. What was the level of primary PCLS at A-Day and what is it now?
Assuming that primary fund protection has been granted and the lump sum entitlement at A-Day was in excess of £375,000 the primary protected PCLS would have been expressed as an amount. This amount is then increased in line with increases in the lifetime allowance up to the date of vesting. As the lifetime allowance has increased by 20% since A-Day (from £1.5m to £1.8m) primary protected PCLS has also increased by 20%, critically, when compared to enhanced protected PCLS, the increase is not related to the fund value.

4. For a client with enhanced or primary protected PCLS, is the PCLS protected on transfer?
For a client who is considering a transfer to another pension wrapper, perhaps an individual trust based SIPP to access a pooled fund, or a contract that allows drawdown, then the enhanced or primary protected PCLS is protected. More importantly it is protected to any type of scheme, without the need to use the block transfer (buddy up) provisions that would apply to protecting scheme-specific PCLS.

5. What about clients who have enhanced or primary fund protection and an A-Day lump sum entitlement less than £375,000?
First of all they do not qualify for enhanced or primary protected PCLS as described above. Secondly,there are very different consequences depending upon whether the client has enhanced or primary fund protection! If the client has enhanced fund protection, but an A-Day lump sum entitlement of more than 25% of the fund (but less than £375,000)thenthe amount will be increased in line with increases in the lifetime allowance. For enhanced and primary protected fund cases where the lump sum rights at A-Day were less than 25% (and less than £375,000) the PCLS will be 25% of the lifetime allowance for the year of vesting or 25% of the total fund if lower. ‘Simple', isn't it?

6. What about clients that have both?
For clients that have both enhanced and dormant primary fund protection i.e. where the total value of their pension fund at A-Day was in excess of £1.5m, there is currently a significant planning opportunity for such people regarding their protected PCLS (where it applies). If the client's fund value has not grown by at least 20% since A-Day, to match the increase in the lifetime allowance, the level of primary protected PCLS will currently be higher than the enhanced protected PCLS which is based on a percentage of the fund. By foregoing enhanced protection and falling back on primary protection it is possible for a client to receive a higher PLCS. Based on the performance of most funds since A-Day this is a definite possibility. If the fund has not increased by 20% since A-Day it also means that the primary protected fund level will be higher than the client's current fund, which is an important consideration to bear in mind regarding future benefit crystallisation events (BCEs). This may not be the case in the future because of fund growth and/or the fact that primary protection is linked to the lifetime allowance, which is now frozen at £1.8m.

7. Are there any other planning opportunities to be aware of?
As primary protected PCLS is expressed as an amount (and not as a percentage of the fund as is the case with enhanced protected PCLS) this creates some additional planning opportunities. Firstly, where the client has more than one scheme, under primary protected PCLS it is possible to choose from which scheme to take the cash, which may be particularly useful where one of the schemes has guaranteed annuity rates for example. Asenhanced protected PCLS is expressed as a percentage it has to be taken across all schemes that the client holds.

8. Can primary protected PCLS be taken in full?
As primary protected PCLS is expressed as an amount and not a percentage it can be taken in full. However, as it must be associated with an ‘arising entitlement' to a form of income,the minimum amount of fund must be used to purchase that income, such as an annuity or drawdown pension. For those clients who wish to only access their primary protected PCLS and not the rest of the fund this means that, subject to contract minimums for the appropriate income option, the remaining fund can stay unvested. One benefit of this is that there will be a 100% lump sum death benefit up to age 75, subject to the client's remaining primary protected lifetime allowance.

9. What is the impact on enhanced and primary protected PCLS of the reduction in the standard lifetime allowance from £1.8m to £1.5m, effective from 6 April 2012?
The good news is that for those clients with existing forms of transitional protection, including PCLS protection, they are unaffected by this change.

10. What is the potential impact on the PCLS entitlement when the client has fund protection, but not PCLS protection i.e. lump sum at A-Day of less than £375,000 and 25% of the fund?
As the maximum PCLS is the lower of 25% of the fund or the lifetime allowance at the time of vesting the maximum PCLS will be reduced by £75,000, from 25% of £1.8m to 25% of £1.5m. For clients potentially impacted by this change there are four things to consider:
a. if currently aged at least 55, to take the higher PCLS by 5 April 2012, subject to the impact on the death benefits from their remaining fund
b. if close to age 75, to take higher PCLS by 5 April 2012 because the death benefit changes on unvested funds anyway at age 75
c. where the fund on retirement is likely to be between £1.5m and £1.8m to forego enhanced protection, where applicable, and opt for fixed protection, where the lifetime allowance will be £1.8m
d. primary protection cannot be relinquished.

As you can see this is a very complex area of pension planning and expert advice should be sought where appropriate as every client's circumstances and requirements will be different.

Andy Zanelli is head of technical sales at AXA Wealth