Example 2 - Pension transfer issues

Our client, a 45 year old entrepreneur, Mr X, approached IAS with a pension issue which he wished to resolve. He was the sole member of an occupational money purchase pension scheme with Equitable Life and was the beneficiary of an earmarked policy, which had been assigned to him on leaving the service of the employer concerned some 6 years previously. The scheme was constructed in such a way so as to give him personal control of the underlying investment policy. This was a control he wished to maintain. Underlying pension fund investments consisted of a few shareholdings selected by the Mr X and cash - there were no Equitable "with profits" issues to consider, on this occasion. Mr X's fund was worth some £750,000.

Mr X had originally attempted to transfer his Equitable fund to a self-invested personal pension (SIPP). This he had been prevented from doing on account of his failure to pass the prevailing GN11 transfer test. (This was a Revenue-prescribed actuarial test designed to prevent senior employees/controlling directors from funding excessively under an occupational scheme and then subsequently circumventing the occupational pension benefit limits by transferring into a personal pension).

Under the old transfer rules, Mr X was resigned to having to wait for 10 years to elapse (following the date of leaving service) at which point the rules permitted a transfer into a personal pension to take place without transfer certification being required. However, under the rules, even once this 10 year period had elapsed, the tax-free cash emerging at retirement from the receiving personal pension would have to be based on salary and service with the employer to which the transfer related. Allowing for prospective RPI indexation to retirement, the prospective tax-free lump sum figure at age 60 was calculated as being in the region of £60,000.

IAS involvement

IAS suggested that it would be worth reviewing his transfer position in the light of the revised transfer regulations which came into force on 6th April 2001 (The Personal Pension Schemes (Transfer Payments) Regulations 2001 - see our technical memorandum). The new rules were designed to simplify the transfer process and, importantly from Mr X's perspective, set out revised "certification" procedures for determining the basis for allowing occupational pension transfers to a personal pension.

IAS established that it would be possible under the new rules for Mr X now to transfer into a personal pension. However, because of a wrinkle in the legislation, (on account of the fact that the original Equitable policy had been assigned to him) the transfer could not go directly from Equitable to a personal pension but would need to pass first through a "Section 32" policy en route.

The Pension Schemes Office confirmed our understanding of the legislation and IAS therefore set in motion a transfer from Equitable of Mr X's pension fund, firstly to a Winterthur Life Section 32 policy and then immediately on to a SIPP operated by Personal Pension Management Ltd.

This circuitous transfer route did not involve Mr X in disproportionate expense. Winterthur charged a flat £200 for the Section 32 transaction, deducted from the transfer proceeds. Personal Pension Management levied a flat setting up fee of £900 in the first year, plus transaction-related charges.

Following the completion of the transfer, Mr X benefited from the knowledge that his pension fund was subject to the more flexible personal pensions legislation providing better annuity options at retirement, more tax-efficient death benefits prior to retirement and, significantly, offered access to 25% of the fund (without restriction) as a tax-free lump sum at retirement. Potentially, depending on the success of Mr X's future SIPP investment strategy (which he wished to dictate himself), the advantage of having transferred to a personal pension under the new transfer regulations could well amount to an additional £500,000 worth tax-free cash by the time he reaches retirement age.

As IAS pointed out to Mr X, it is fortunate that he failed the original GN11 transfer test! Had he succeeded in transferring to a personal pension at the first attempt under the old transfer rules, it would have cost him a significant amount of potential tax-free cash against what is now available under the new rules.

As is often the case when "simplifying" pensions legislation is enacted, this case demonstrates how such simplification can have beneficial (if unintended) consequences in specific circumstances. Our role is to identify those areas where IAS clients can benefit from a particular application of the legislation. Very often, we find, it is in the area of maximizing tax-free cash at retirement where creative thought can be applied to advantage and where, potentially, IAS is able to add significant value.