The concept of a pension and the arrangement itself is relatively straightforward in most instances, but the rules surrounding pensions can be very complex.
In normal circumstances you cannot access your pension before the age of 55 so if you are told that you can be careful, as it could be a scam and you could risk losing everything. Read our article here to be aware of the dangers.
Pension Commencement Lump Sum (PCLS)
When you decide to start taking and withdrawing your pension benefits, you will generally have an option to take a cash lump sum - called PCLS, but commonly referred to as tax free cash - and is typically 25% of the total value of your accrued pension. It can only be paid once.
PCLS is paid in addition to your pension income which when paid, is subject to Income Tax.
You will usually have to convert your pension fund to a different type of arrangement which allows income to be paid, such as a flexible access drawdown or an annuity when you take the PCLS.
If you’re a member of a final salary (defined benefit) scheme, your entitlement is determined by the scheme rules – please see below.
PCLS – Defined Benefit / Final Salary scheme
The scheme rules determine how much tax free lump sum you are entitled to. The PCLS payment is paid in addition to a regular pension income which is subject to Income Tax.
You won’t normally be allowed to take any more than the rules permit, but you can take less and the scheme will convert the amount into a higher level of income instead.
Defined contribution / money purchase lump sums
Since April 2015, you have been allowed to take your entire pension pot as a cash lump sum, provided you haven’t previously accessed it and the PCLS.
This is called Uncrystallised Funds Pension Lump Sum (UFPLS) and you can take the whole amount at once or as ad hoc lump sums. PCLS forms 25% of each payment and if you don’t access the entire fund the residue will remain invested, but there are tax implications.
Of the amount you withdraw, 25% is paid tax free, but the balance is subject to income tax at your highest marginal rate of tax. If you’re still working or receiving income from other sources, care may be required to avoid you being pushed into a higher income tax bracket.
Not all pensions allow this option, so you need to check if your provider has this option available. Spreading withdrawals over a number of tax years can help to minimise your tax bill, but careful planning is required.
Small pension pots
You may be able to take the whole of your pension as a cash lump sum. If you’re in a defined benefit scheme, it’s called ‘triviality’ and the total value of your pension savings must be less than £30,000. 25% of the amount is paid tax free and the rest is taxed at your marginal rate of income tax.
If you’re in a defined contribution scheme, you can take up to three pension arrangements if they are each valued at less than £10,000. 25% of the payment is tax free and the balance is paid subject to your marginal rate of tax. Essentially, this option has been superseded as the same outcome can be achieved by using UFPLS.
Anyone with lifetime allowance protection or lump sum protections may be entitled to a greater amount than we’ve covered in this article, so if this is the case it is important to seek professional advice.
In some circumstances it may still be possible to make additional payments into pensions, but restrictions do apply. If this is an important factor, seek advice first.
Obtaining financial advice from a regulated adviser can ensure that you choose the most appropriate route for your circumstances. Contact our Financial Planning Team on 0808 144 5575 across Cumbria, Northumberland, Yorkshire and Scotland.
If you would like more information or advice to ensure you choose the most appropriate route for you to maximise your benefits, get in touch with one Financial Planning Teamhere
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