Member benefits: pensions: drawdown pension rules applying from 6 April 2015: flexi-access drawdown fund - where member had not designated funds in an arrangement into a drawdown pension fund before 6 April 2015
Establishing a flexi-access drawdown fund
Paragraphs 7, 8 and 8A Schedule 28 Finance Act 2004
A member wishing to take their pension benefits as drawdown pension must designate uncrystallised sums and assets in a money purchase arrangement as being available for drawdown pension.
Where the member is making a designation on or after 6 April 2015 and did not have an existing drawdown pension fund on 5 April 2015, they must designate the sums and assets as available for the payment of drawdown pension in a new drawdown fund, known as a flexi-access drawdown fund. The sums or assets designated for flexi-access drawdown are called ‘newly-designated funds’.
When the member designates the new funds as available for flexi-access drawdown, they may choose to receive a tax-free pension commencement lump sum (see PTM063200 for more detail) of an amount equal to one third of the value of the funds that were put into the flexi-access drawdown fund. So if the member has a pension pot of £40,000, they could designate £30,000 as available for drawdown and the remaining £10,000 (which is one third of £30,000) can be taken as a tax-free pension commencement lump sum.
Annual allowance consequences
If sums or assets are designated to a flexi-access drawdown fund as available for the payment of drawdown pension, and the whole of that fund is not attributable to a disqualifying pension credit, then when the member draws down from that fund, whether in the form of income withdrawal or a short term annuity, they become subject to the money purchase annual allowance rules (unless they were already subject to those rules because flexible access had already occurred in relation to them in another scheme or arrangement). This means they will receive tax relief on new money purchase pension savings up to a maximum of £10,000 a year. See PTM056500 for more detail.
Lifetime allowance consequences
Section 216 Finance Act 2004
When the member designates funds as being available for the payment of drawdown pension in a flexi-access drawdown fund then, where the member is aged under 75, the designation is a benefit crystallisation event (a BCE 1) and the amount designated is tested against the member’s available lifetime allowance (see PTM088610 for more detail). If they also take a tax-free pension commencement lump sum, this is also a benefit crystallisation event (a BCE 6). See PTM088670 for more detail.
If the member is aged 75 or over when they designate funds as available for the payment of drawdown pension in a flexi-access drawdown fund, there are no benefit crystallisation events. The funds so designated will of course already have been tested against the member’s available lifetime allowance when they reached age 75, as a BCE 5B (see PTM088650).
Flexi-access drawdown benefits
A member can take benefits from their flexi-access drawdown fund as drawdown pension in the form of either a short-term annuity (see PTM062720) or income withdrawal.
If the member chooses income withdrawal from their flexi-access drawdown fund, they can take as much or as little from it as they like each year regardless of whether or not they have any other income or, if they do, the level of that income.
Taxation of a flexi-access drawdown pension
Section 165(2) Finance Act 2004
Section 579A Income Tax (Earnings and Pensions) Act 2003
Flexi-access drawdown pension (which includes income withdrawal and short-term annuities) is a form of pension for tax purposes and so is chargeable to income tax as pension income. The member receiving flexi-access drawdown pension is liable for income tax at their marginal rate in a tax year on whatever income they take from their flexi-access drawdown fund during that year. The scheme administrator is required to deduct income tax from the flexi-access drawdown pension under the PAYE regulations.
Dinta has £40,000 in a money purchase arrangement which she wants to take benefits from through drawdown. She hasn’t previously designated any funds to a drawdown pension fund and has no other pension savings.
Dinta therefore designates £30,000 to a flexi-access drawdown fund. At the same time, she receives from her money purchase arrangement a tax-free lump sum of £10,000 (one third of the value of the funds she put into drawdown).
Dinta does not have to take any income from her flexi-access drawdown fund, but when she does she will trigger the money purchase annual allowance rules.
If Dinta takes £10,000 as income withdrawal from her flexi-access drawdown fund in tax year 2015-16, that £10,000 is taxable as pension income at Dinta’s marginal rate.
Tom, aged 58, has pension savings in his money purchase scheme of £120,000. He has no other pension savings but is still employed and receives an income of £27,000 a year. In December 2015, he decides that he wants to put the funds into a flexi-access drawdown fund. He can have £30,000 paid to him as a tax-free lump sum. The remaining £90,000 is designated as available for the payment of drawdown pension.
In tax year 2015-16, Tom takes £5,000 from his flexi-access drawdown fund. His total taxable income for the year is therefore £32,000. As this is less than the higher rate threshold, Tom is liable to income tax at basic rate on all his income.
In tax year 2016-17, Tom takes £25,000 from his flexi-access drawdown fund. His total taxable income for the year is therefore £52,000 and he will be liable for income tax at higher rate on the amount over the higher rate threshold, and at basic rate on the amount between his personal allowance and the higher rate threshold.
The money purchase annual allowance rules were triggered on the date Tom first drew income from his flexi-access drawdown fund in 2015-16.