With one week to go before widespread pension reforms take effect, the countdown is on - are you ready?
Monday 6 April is the milestone date for wide-reaching pension reforms which represent the biggest challenge to the pensions industry since A Day. They comprise changes to defined contribution (DC) pensions aimed at providing savers with flexible access to their pension savings, and changes to the DC governance and charges regime.
Our earlier alert gave a high-level summary of the reforms, including key dates to be aware of and relevant documents and guidance. Here we take a look at what the future holds for flexible access to Defined Contribution pension savings as part of a four-part series of alerts this week to help trustees and employers get ready.
DC occupational schemes
Flexible access to DC savings - overview
Last year's Budget Statement promised a radical change in workplace pension savings. The policy reaches a key milestone on 6 April 2015, the effective date for changes to the tax regime that will underpin flexible access to DC savings. We have provided detailed coverage of these changes (read our overview guide to flexible access to DC savings). This section provides an overview of the key changes that will apply on and from 6 April 2015.
Individuals with savings in DC pension schemes may be able to make use of the two new options:
- uncrystallised funds pension lump sums (UFPLS); and
- flexi-access drawdown (FAD).
Members will either be able to take advantage of these options within their own scheme (if the scheme chooses to allow them), or transfer their benefits to another DC arrangement that offers the new flexibilities.
Each time an individual takes a UFPLS, one quarter of each lump sum will be paid tax free. The rest will be taxed at the individual's marginal rate. A payment under a FAD account is subject to tax at the individual's marginal rate. Under a FAD the individual can take up to 25% of their DC pension savings as tax free cash when they designate their pot as being available for drawdown.
The key changes to facilitate flexible access to pension savings are accompanied by:
- changes to the taxation of pension savings at death;
- Introduction of a new 'Money Purchase Annual Allowance', triggered if an individual accesses their pension savings flexibly;
- amendments to the regime for existing and new drawdown funds;
- abolition of trivial commutation lump sums for DC schemes;
- the minimum age for most individuals taking small pots changing from age 60 to normal minimum pension age (usually age 55). The limit for small pot payments was increased on 27 March 2014 from £2,000 to £10,000; and
- extension of the statutory right to DC transfers, removing the bar on transfers that applied if the member's pensionable service terminated within one year of their normal pension age.
Flexible access to DC savings - key pension reform issues for DC scheme trustees
Here we consider the key questions that DC scheme trustees need to consider to ensure compliance with the new regime.
1. Have you discussed with the employer whether or not to offer flexible access to DC savings in your scheme?
If you haven't already done so, you should discuss whether or not to offer flexible access to DC savings with the scheme's employer(s) as soon as possible.
The scheme's sponsoring employer(s) is primarily responsible for scheme design. New DC flexibilities could have cost implications for sponsors so trustees and sponsors should liaise with each other.
2. Will you amend the scheme's rules or rely on the statutory override? How will you document your decisions?
There are three ways that schemes can provide flexible access to DC pension savings:
- use the pension scheme's existing power of amendment to change the scheme's rules;
- amend the scheme's rules using the statutory power for trustees to amend rules with employer consent; or
- use the overriding trustee-only power to make payments under the new flexibilities.
If trustees want to use the overriding statutory trustee power to make payments, they should formalise their approach in a policy, document their decision and consider communicating their approach to members.
3. How will you signpost the availability of guidance (Pension Wise)?
As part of the Government's 'guidance guarantee', members with DC pension savings will have access to free and impartial guidance (Pension Wise). The guidance will be available when members come to take their benefits and will be provided online, by telephone and face-to-face.
Trustees have a statutory obligation to signpost the availability of guidance and provide other information. The obligation applies to a member who has a right or entitlement to, or an opportunity to transfer, 'flexible benefits' (this includes money purchase benefits and cash balance benefits on certain trigger points, for example when they approach retirement, request information or contact the trustees about what they may do with their flexible benefits.
The Pensions Regulator also expects trustees to give members generic risk warnings in relation to the four main retirement options (annuity, drawdown, cash in stages, cash in one go) and has provided example wording for schemes to adapt.
The Pensions Regulator has issued a draft guide for trustees on communicating with members about pension flexibilities (view a PDF copy). If you have any more questions about signposting guidance and changes to the disclosure regime our pensions team will be able to help.
4. Have you reviewed your administration agreement and discussed the changes to information provision with the administrators?
New communication requirements imposed on trustees mean that trustees should check that their administrators are up-to-date and complying with the new regime.
Trustees should:
- liaise with their administrators (in-house or external) over disclosure requirements and member communications;
- review the administration agreement; and
- keep copies of member communications which signpost the Pension Wise service and set out the required risk warnings.
5. Have you reviewed your investment strategy and range of investment options?
Trustees should review the scheme's investment strategy and consider the range of investment options that they offer members.
The traditional default option may no longer be appropriate. Trustees should consider whether any changes are required.
Communication with members on any changes to investment options is key.