I beg to move amendment 1, in Schedule, page 11, line 3, at end insert—
(2A) A lump sum death benefit is also a flexi-access drawdown fund lump sum death benefit if—
(a) it is paid on the death of a nominee of the member,
(b) it is paid in respect of nominees’ income withdrawal to which the nominee was at the date of the nominee’s death entitled to be paid from the nominee’s flexi- access drawdown fund in respect of an arrangement relating to the member, and
(c) it is not a charity lump sum death benefit.
(2B) A lump sum death benefit is also a flexi-access drawdown fund lump sum death benefit if—
(a) it is paid on the death of a successor of the member,
(b) it is paid in respect of successors’ income withdrawal to which the successor was at the date of the successor’s death entitled to be paid from the successor’s flexi-access drawdown fund in respect of an arrangement relating to the member, and
(c) it is not a charity lump sum death benefit.”
The schedule is introduced by clause 1, which sets out the tax changes necessary to give individuals more flexibility in how they access their defined-contribution pension savings. The schedule gives me the opportunity to discuss these changes in greater detail.
First, the schedule creates the concept of flexi-access drawdown, which unlike current forms of drawdown has no caps or income requirements. This means that everyone retiring with defined-contribution savings will now be able to set up a drawdown fund and withdraw as much or as little as they like. Secondly, it makes annuities more flexible by, for example, allowing them to decrease. That will enable providers to innovate. Thirdly, it creates a new way to take money from your pension via an uncrystallised funds pension lump sum. Fourthly, it prevents the reforms from being exploited for unintended tax purposes by introducing a new £10,000 annual allowance for those who have accessed their pension flexibly, together with a requirement to report when that access has happened. Finally, it ensures that the new UK pensions system is reflected in the treatment of overseas schemes that consist of or contain UK tax-relieved pension funds.
Taken together, the changes will create much more flexibility for individuals in how they access their pension savings. Through a new flexi-access drawdown, which has no cap on the amount which can be withdrawn and no income requirement, individuals will be able to access their savings as they wish. The changes to the tax rules governing annuities will allow providers to create new flexible products that reflect consumers’ changing retirement income needs. The UFPLS—“uff-plus” as it has become known—will be payable directly from pension savings, allowing individuals a further option for flexible income withdrawal. These changes will allow future retirees much greater choice.
While making these important changes to extend flexibility, it is important also to ensure that we protect the Exchequer from the risk of individuals exploiting the new tax system to gain unintended tax advantages. For this reason the schedule sets out the details of the reduced money purchase annual allowance, which will apply to individuals who access the defined-contribution pension flexibly. It contains details of the requirements that will be placed on schemes and individuals regarding the provision of information. Essentially, those requirements will ensure that when individuals accesses their pension flexibly, schemes of which they are members know that they are subject to the new reduced annual allowance.
The schedule makes various other amendments to tax and pensions legislation, including amending the tax-free lump sum recycling rules to ensure that they remain effective, and introducing a permissive statutory override which will allow scheme trustees to offer the new flexibilities to individuals without the need to change their scheme rules. There are also provisions which are intended to ensure that the new UK pensions system is reflected in the treatment of relevant overseas schemes.
Hon. Members raised a number of important points on Second Reading. Let me take this opportunity to explain in more detail the Government’s position on a couple of those issues. I suspect I will anticipate points that may be raised by the hon. Member for Kilmarnock and Loudoun, but let us see. First, there was a concern that the reduced £10,000 annual allowance could create a risk to the Exchequer. Let me explain the Government’s thinking on this point, although it was set out in my recent letter to the Pension Schemes Bill Committee, a copy of which members of this Committee should have received.
The Government consulted extensively on how best to ensure that the new system cannot be exploited by individuals to achieve unintended tax advantages. If the Government were to put in place no protections, an individual over the age of 55 could divert their salary each year into their pension, take it out immediately and receive 25% of it tax-free, thus avoiding income tax and national insurance contributions on their employment income. This is not the intention of the reforms. However, in the context of automatic enrolment, it is important that any solution preserves the incentive for those over 55 to save after accessing their pension flexibly. This is not unrelated to the discussion just now with the hon. Member for Scunthorpe about changing working patterns.
As a result of extensive consultation, the Government decided that the £10,000 money purchase annual allowance strikes the right balance. On the one hand, it allows people the flexibility to withdraw or contribute to their pension as they choose from the age of 55. On the other hand, it ensures that individuals do not use the new flexibilities—which are intended to provide people with greater access to their retirement savings—to avoid paying tax on their current earnings. It will also avoid unnecessary complexity for both consumers and pension providers when the new system comes into place in April 2015. As stated in the Government’s response to the consultation, we will closely monitor behaviour under the new system, and will work closely with industry to ensure that the system remains fair and proportionate.
It was also suggested on Second Reading that the changes the Government are making to allow innovation might lead to the creation of inappropriate products. I reassure hon. Members that the FCA, under its consumer protection remit, has responsibility for ensuring that regulated firms treat their customers fairly and communicate in a way that is clear, fair and not misleading. The FCA also has powers to take action against firms that engage in unauthorised business.
The Government have consulted extensively on the tax changes to allow innovation and believe it is important to allow providers to create products that fit the changing retirement income needs of consumers. The guidance guarantee, which is being legislated for through the Pension Schemes Bill, is designed to empower consumers to make informed decisions on how to make the best use of their pension savings. As part of that, it will aim to promote consumer awareness of scams and help to ensure consumers are less vulnerable to mis-selling.
The Government amendments, new clause 1 and new schedule 1 make several changes to the tax changes that apply to pension savings upon an individual’s death. That is a complicated area, so it might be helpful if I set out how the current system works and explain how the amendments change it. Under the current system, the tax treatment of an individual’s pension at death varies depending on a number of factors, including the type of pension the individual has, whether it is paid out as a lump sum or as a regular stream of income, and the age at which the individual dies. If an individual dies before the age of 75 with an uncrystallised pension fund, that means they have not yet taken a pension. That fund can be paid out to any beneficiary tax-free as a lump sum up to the lifetime allowance, which is £1.25 million.
Similarly, if an individual who is a member of a defined-benefit scheme dies before the age 75, a lump sum can be paid to any beneficiary tax-free. However, if an individual dies with money in a drawdown fund that is paid out to a beneficiary as a lump sum, a tax charge of 55% currently applies, regardless of the age of the individual when they die. If a pension death benefit is paid out as a stream of income instead of as a lump sum, it will be taxed at the dependant’s marginal rate. However, it can be paid out only to a dependant defined as a spouse, a child under the age of 23, or someone who is financially dependent on the deceased.
As set out in the original consultation document, which the Government published alongside the Budget, it is likely that the 55% tax charges that currently apply to pensions on death would apply to more people under the new system. If they were retained, it is likely that they would provide an incentive for individuals to remove their savings from their pension to avoid paying the 55% tax charge.
To deliver those changes, the Government have tabled amendments 1 to 12 to the existing schedule. Those changes are linked to the new clause and new schedule, which I will turn to shortly. Amendments 1 to 3 allow for the new type of death benefit lump sum introduced by the schedule—the flexi-access drawdown fund lump-sum death benefit—which allows unused funds in the member’s drawdown account to be paid out as a lump sum to a beneficiary, and to be payable from unused drawdown funds on the death of the beneficiary.
Amendment 4 extends the permissive statutory override in part 5 of the schedule to include drawdown pension payments to non-dependant beneficiaries. That will allow schemes to offer that option to their members, even if it is not currently permitted by their scheme rules. Amendments 5 to 8 amend paragraphs 81 and 82 of the schedule, and ensure that income withdrawals from a non-dependant beneficiary’s drawdown fund that was registered under a pension scheme when the beneficiary was temporarily non-resident are treated as accruing when the person returns to the UK.
Amendments 9 to 12 ensure that any payments by a non-UK pension scheme during a temporary period of non-residence that would have been income withdrawals from a drawdown fund if the scheme were a registered pension scheme are treated as arising when the person returns to the UK. These consequential amendments ensure that the legislation contained in the existing schedule is compatible with the Government new clause and new schedule.
The new clause and new schedule make several changes to the current system and will preserve the incentive to save. New clause 1 introduces new schedule 1, which allows an individual—not only a dependant—to inherit unused drawdown funds or uncrystallised funds on the death of a member where those funds are then used to provide a drawdown pension or to pay a lump sum death benefit. The changes ensure that, when the death of the member or beneficiary occurs before age 75, any payments of income withdrawal to a beneficiary will be made tax-free if they are designated within a two-year period. They also ensure that any uncrystallised funds are tested against the deceased’s lifetime allowance.
Members may also wish to note that the new clause and new schedule, and amendments 1 and 2, link to clause 2, which reduces the tax charges that apply to certain lump sums paid by pension schemes on an individual’s death, and removes the tax charge altogether when an individual dies before age 75. We will be debating clause 2 shortly.
The aim of the changes is to ensure that individuals who die with funds remaining in their pension pots can pass them on to anyone they choose. The funds can then be paid tax-free if the original pension member dies before age 75, or taxed at the beneficiary’s marginal rate if a person dies having reached age 75. The changes will ensure that individuals who have made sacrifices to save over the course of their lives can pass on their pension savings without worrying about those funds being hit by excessive tax charges when they die. They will also preserve the incentive for individuals to keep money in their pension, without fear of their beneficiaries being hit by a 55% tax charge.
I hope the amendments will be accepted by the Committee. More than 300,000 individuals retire each year with defined contribution pension wealth. Many of those people are currently severely restricted in their choices at the point of retirement, and the schedule will deliver the radical changes announced by the Chancellor at the March Budget. They will revolutionise the pension savings landscape, leading to more choice and greater freedom for people in retirement. I hope the new clause, new schedule and Government amendments will stand part of the Bill.
I thank the Minister for laying out the amendments clearly. The schedule is the meat of the Bill and is divided into seven parts. It amends the Finance Act 2004 and the Income Tax (Earnings and Pensions) Act 2003, and relates to the authorised pension benefits that can be provided to members of registered defined-contribution pension schemes and their dependents. It allows for the introduction of the new flexi-access drawdown funds and distinguishes between payments made under them, and those made under existing flexible access drawdown.
The schedule provides that existing flexible access drawdown funds will automatically be converted into flexi-access drawdown funds. It sets out the circumstances in which capped drawdown funds would be converted into flexi-access drawdown funds. That can either be done at the request of the scheme member or occur automatically if the member does not make use of the new flexibilities. As the Minister has said, the scheme also introduces the new money purchase annual allowance rules, which set an annual limit of £10,000 on the amount of money that can be saved tax-free in money purchase arrangements, and which will be triggered when an arrangement is flexibly accessed.
In addition, the schedule amends the requirements for lifetime and short-term annuities to provide greater flexibility for both members and dependants. That means that, when the individual becomes entitled to the annuity on or after 6 April 2015, some of the conditions are removed that would have applied had the individual become entitled to the annuity before that date.