General principles: arrangements: cash balance arrangements
Cash balance is a sub-category of money purchase arrangements.
An arrangement is a cash balance arrangement where the member will be provided with money purchase benefits, but the amount that will be available to provide those benefits is not calculated purely by reference to payments made under the arrangement by or on behalf of the member.
This means that in a cash balance arrangement the capital amount available to provide benefits (the member’s pot) will not derive wholly from any actual contributions (or credits or transfers) made year on year.
For example, the scheme may promise that on retirement a specified amount will be made available to provide the member with benefits for each year of pensionable service. The specified amount might be an absolute amount, such as £5,000 per year of service, or might be a percentage of the member’s salary for each relevant year of service. Optionally, the scheme might also guarantee a rate of investment return on the specified amount. The member knows what will go into the promised pot each year (regardless of any contributions actually made) and so can ascertain the amount that accrues in that promised pot each year.
It is possible that in a cash balance arrangement the promised pot builds up entirely notionally year by year, being funded only at the end. So, during the build-up phase, the amount in any actual fund held in respect of the member (whether more or less than the amount in the promised pot) is irrelevant. When benefits ultimately become due the amount in the promised pot is funded and it is that amount that is used to provide benefits.
The benefits ultimately provided under the arrangement will still be money purchase benefits, because they will be calculated by reference to the member’s pot. These arrangements also fall within the money purchase arrangement definition when considering the benefit payment rules.
A cash balance arrangement is treated differently from other money purchase arrangements in other areas of the legislation, as appropriate to its different characteristics. This different treatment arises where it is necessary to value the member’s accrued, but unrealised, benefits under the arrangement. For example, when valuing the member’s unrealised benefits for annual allowance purposes, and in certain of the lifetime allowance enhancement, borrowing, surcharge and transitional protection provisions there are separate provisions solely covering cash balance arrangements.