Cashing-in Pensions (Triviality)

If the value of your pension rights is below a certain level, it may be possible to give up those rights in exchange for a cash sum.

From 6 April 2006, this option is only possible where the total of all your pension rights does not exceed 1% of the Lifetime Allowance. For the tax year 2010/11, this will equates to £18,000.

Valuing Existing Pension Rights

There are different ways of valuing existing pension rights to test against this threshold.

Pension rights (not yet in payment) from a defined benefit scheme (including final salary and career average schemes)

The accrued pension is valued using a factor of 20:1.For example, if you have a pension of £10,000, its value is £200,000 (£10,000 x 20).

Pension rights (not yet in payment) from a defined contribution scheme (including money purchase schemes, personal pension plans and stakeholder schemes)

The market value of the fund is used.

Pension already in payment before 6 April 2006

The pension in payment as at 5 April 2006 is valued using a factor of 25:1 and then uprated against the Lifetime Allowance in the year of the test.  For reference, the Lifetime Allowance is £1.5m for the 2006/07 year and rises to £1.6m (2007/08), £1.65m (2008/09), £1.75m (2009/10) and £1.8m (2010/11).

For example, you start receiving a pension of £1,200 in 2001.  As at 5 April 2006, it has increased to £1,500.  Its value at 5 April 2006 is £37,500 (£1,500 x 25). If the test for triviality purposes is carried out in 2010/11, when the Lifetime Allowance is £1.8m, its true value is £45,000 (£37,500 x £1.8m/£1.5m).

Pension put into payment on or after 6 April 2006

The pension is valued against the Lifetime Allowance in the year of payment.  That value is then assessed against the Lifetime Allowance in the year the triviality test is carried out.  For reference, the Lifetime Allowance is £1.5m for the 2006/07 year and rises to £1.6m (2007/08), £1.65m (2008/09), £1.75m (2009/10) and £1.8m (2010/11).

For example, you receive a lump sum of £2,000 and a pension of £500 a year in May 2006.  The value of these benefits is £12,000 (£500 x 20 for the pension and £2,000 for the lump sum).  That is 0.8% of the Lifetime Allowance in that year. If the test for triviality is carried out in 2010/11, when the Lifetime Allowance is £1.8m, its true value is £14,400 (0.8% x £1.8m).

Age Limit

The option to cash-in a small pension can only be exercised between the ages of 60 and 75.

Time Limit

If you wish to cash-in more than one pension, assuming you meet the qualifying criteria above, you must do so within 12-months of cashing-in the first one.  You will not be able to cash-in any pensions after that 12-month period has expired.

Tax

If you do cash-in a pension under triviality rules, a quarter of the cash paid is tax-free with the remainder treated as taxable income in the year it is received.

The cashing-in of rights under an occupational scheme will be subject to the agreement of the scheme's trustees.

New Rule From 1 December 2009 (occupational pension schemes only)

This new rule applies to occupational pension schemes only.  It does not apply to personal pensions, stakeholder pension and SIPPs.

The new rule allows small occupational pensions to be cashed-in under triviality rules, even if the main rules above have not been met.

The following are the main qualifying criteria:

• You must be between 60 and 75;
• You must not be a controlling director of the sponsoring employer;
• The payment must not exceed £2,000;
• The payment extinguishes your right to benefits under the scheme; and
• There must not have been a transfer-out of the scheme in the 3 years preceding the date of payment; and
• The first 25% of the payment is tax-free, with the remaining 75% taxable under PAYE.

Special Rules For Winding Up Occupational Pension Schemes

You can cash in your occupational pension scheme winds up and:

• You are under 75 (there is no mimimun age); and
• The benefit value is less than 1% of the lifetime allowance for that tax year (i.e. less than £18,000 for 2010/11).

It is not necessary to take into account any benefits held within other schemes, but:

• The employer (or former employer) who paid contributions to the scheme in respect of the member cannot make contributions to any other registered pension scheme in respect of the member.
• Such an employer (or former employer) must undertake to HM Revenue and Customs (HMRC) not to make any contribution to another pension scheme in respect of the member for at least 12 months after the winding-up lump sum is paid. (NB. If the employer is no longer in existence, HMRC will treat this undertaking as already having been complied with). 

Equivalent Pension Benefit (EPB) Only Rule

Between 1961 and 1975 the government ran a scheme called the state Graduated Retirement Benefit scheme, in addition to the basic state pension scheme. It was possible for occupational pension schemes to opt-out their members of this scheme but only on the condition that they provided an amount called an Equivalent Pension Benefit (EPB) to make up for this. On leaving employment these amounts were often held as deferred pensions.

EPB amounts are not increased in deferment. Therefore those coming to retirement age now will find that their benefits are very small as they will not have increased since the 1960s/ 1970s. Due to the small nature of EPB only rights HM Revenue and Customs have said that where a pension scheme member has only EPB rights to their name these can be commuted even if the member has already exceeded 1% of their lifetime allowance. However if the member is also seeking to commute rights under other schemes then the EPB rights must be taken into account when assessing against the 1% limit. HMRC has published a comment here in their Pensions Manual:

HMRC Pension Manual

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