PTM176210 - Lump sum allowance and lump sum allowance and death benefits: Primary protection: Overview
If you are looking for information about protections, lifetime allowance and the lifetime allowance charge pre-April 2024 please see the National Archives.
Reduction of the primary protection factor on divorce
Protection for certain lump sum death benefits
Introduction
A claim for primary protection (PP) could only have been made where an
individual’s pension and/or lump sum rights in a tax-privileged scheme or
contract were valued at more than £1,500,000 at 5 April 2006.
Individuals claiming primary protection could and can continue to make
tax-relieved contributions or to accrue further benefits under registered
pension schemes after 5 April 2006. Primary protection cannot be given up, but
it can be reduced or lost entirely as a result of a pension sharing order.
Individuals with primary protection have a greater lump sum allowance and lump
sum and death benefit allowance.
Lump sum allowance with PP
As of 6 April 2024, an individual with primary protection has a lump sum
allowance of £375,000 (if the individual has not had any benefit
crystallisation events prior to this, see PTM174500.)
When an individual has a relevant benefit crystallisation event the relevant
lump sum will need deducting from this figure.
Lump sum and death benefit allowance with PP
As of 6 April 2024, an individual with primary protection has a lump sum and
death benefit allowance of £1,800,000 (if the individual has not had any
benefit crystallisation events prior to this, see PTMPTM174500)
When an individual has a relevant benefit crystallisation event the relevant
lump sum will need deducting from this figure.
Reduction of the primary protection factor on divorce
Paragraph 11 Schedule 36 Finance Act 2004
Primary Protection cannot be given up. But an individual will have their
primary protection reduced or lose it entirely if after 5 April 2006 they
become subject to a pension debit as a result of a pension sharing order
following their divorce.
When an individual with primary protection becomes subject to a pension debit,
their primary protection factor is reduced. The value of the pension rights
under primary protection are recalculated.
This is done by reducing the amount ‘RR’ (the value of pension rights on 5
April 2006) in the formula:
RR - £1,500,000 / £1,500,000
When an individual has become subject to a pension debit, they must notify
HMRC. If primary protection has not been lost due to the pension debit, HMRC
will issue a new certificate showing the reduced primary protection factor.
The reduced factor is then applied to all relevant benefit crystallisation
events that take place after the individual’s rights have been reduced by the
pension debit.
The reduction due to the pension debit occurs on the effective date of the
pension sharing order. The Welfare Reform and Pensions Act 1999 refers to the
effective date as the transfer date. This will not necessarily be the same as
the date that the individual’s rights in the arrangement(s) under the scheme
are actually split.
Where a pension debit reduces an individual’s protected pension rights to a
value below £1.5 million, that individual will lose primary protection.
Example
Kevin has notified protected pension rights of £3,000,000.
On 13 June 2024, his protected pension rights were reduced by a pension debit
of £300,000.
His pension rights on 5 April 2006 were £3,000,000 and are deemed to have
reduced to £2,700,000 because of the pension debit.
This results in a recalculation of his protected pension rights.
£2,700,000 - £1,500,000 / £1,500,000 = 0.8
The 0.8 factor applies to Kevin’s allowances at the next relevant benefit
crystallisation event.
Notification to HMRC
To claim primary protection at a relevant benefit crystallisation even an
individual must have notified HMRC of their intention to rely on this protection.
This notification must have been made on or before 5 April 2009 but not before
6 April 2006.
On receipt of this notification, HMRC will have issued a certificate with a
unique reference number giving details of the individual’s allowance
enhancement factor for primary protection.
Guidance on the notification process can be located on the National Archive (RPSM03100500).
HMRC may accept a late notification in limited circumstances. See PTM176600 for guidance on late notification.
Protection for certain lump sum death benefits
Paragraph 11A – 11D Schedule 36 Finance Act 2004
The payment of a defined benefits lump sum death benefit or an uncrystallised
funds lump sum death benefit is a relevant benefit crystallisation event. The
payment of such a lump sum may result in a liability to the income tax at an
individuals marginal rate if it exceeds the individuals lump sum and death
benefit allowance.
Where a lump sum death benefit is paid that is a relevant benefit
crystallisation event there will be no liability to income tax if the amount of
the lump sum does not exceed the amount of the deceased member’s primary
protection. The value of the deceased member’s primary protection is calculated
on the basis of the pension and lump sum paid or payment to the individual on 5
April 2006.
Where the amount of the lump sum exceeds the deceased member’s available
primary protection the recipient of the lump sum can notify HMRC under the
provisions of paragraph 11A Schedule 36 Finance Act 2004 so that the value of
the primary protection can be increased where appropriate.
The recipient of a lump sum death benefit cannot notify their intention to rely
on a higher level of primary protection unless the deceased member (or their
personal representative) has already validly notified primary protection.
The value of primary protection will only be increased if the value of the lump
sum death benefit prospectively payable had the deceased member died on 5 April
2006 is greater than the value of the primary protection previously calculated.
The legislation defines the prospective death benefits on 5 April 2006 as
‘pre-commencement rights to death benefits’.
‘Pre-commencement rights to death benefits’ are prospective rights on 5 April
2006 to the payment of a lump sum death benefit from an arrangement under a
scheme that becomes a registered pension scheme by virtue of paragraph 1(1)
Schedule 36 Finance Act 2004.
‘Pre-commencement rights to death benefits’ do not include:
- a lump sum death benefit payable from a personal pension arrangement where the individual is already entitled to income withdrawal,
- a lump sum death benefits payable under a 5 year (pension) guarantee or a lump sum payable under continued life cover provisions to an individual who is already entitled to retirement benefits under the arrangement.
The value of the individual’s ‘pre-commencement rights to death benefits’ is the amount of the lump sum death benefits that would have been payable had the individual died on 5 April 2006 excluding:
- Any amount that is paid would have given HMRC grounds for withdrawing approval of the scheme/arrangement/contract making the payment,
- The dependents’ pension proportion amount (if any). This amount is determined by calculating the maximum amount of lump sum that could be paid from each arrangement as a defined benefits lump sum death benefit or an uncrystallised funds lump sum death benefit when the first such lump sum death benefit is paid from each arrangement. Where such lump sums are lower than the maximum lump sum otherwise payable because some potential lump sum has been or will be paid instead as dependants’ pensions the proportion of the maximum potential lump sum paid or payable as dependants’ pensions must be calculated. This proportion is then applied to the amount of the lump sum death benefit payable had the individual died on 5 April 2006. The resulting amount of lump sum is the dependants’ pension proportion amount.
- the amount of any lump sum death benefit payable under a policy of life assurance on 5 April 2006 by any scheme (other than an occupational pension scheme with at least 20 members on 5 April 2006) where:
- the policy does not pay out a lump sum after 5 April 2006, or
- the terms of the policy are varied significantly in the period 5 April 2006 to the date of the individual’s death. Guidance on what is meant by a significant variation to the policy can be found in The Insurance Policyholder Taxation Manual at IPTM8145 and IPTM8150. Any exercise of rights conferred by the policy is treated as a variation.
- “A variation made in order to comply with the Employment Equality (Age) Regulations 2006 or the Employment Equality (Age) Regulations (Northern Ireland) 2006 - or any regulations replacing or amending them - will be ignored for this purpose.”
- The amount of any lump sum death benefit payable from an occupational pension scheme on 5 April 2006 where:
- The individual was no continuously employed in the period from 5 April 2006 to the date of their death by either the same employer as they had been on 5 April 2006 or by a person connected with the employer. (Connected persons are defined in PTM027000)
- The individual was already entitled to benefits under the occupational pension scheme before their death.
Where a policy held on 5 April 2006 for the purposes of an occupational
pension scheme is surrendered and a new one taken out the new policy will be
treated as a pre 6 April 2006 existing policy where the reason for the
surrender and taking out of the new policy is either:
to comply with the Employment Equality (Age) Regulations 2006 or the Employment
Equality (Age) Regulations (Northern Ireland) 2006 - or any regulations
replacing or amending them, or
as part of a transaction to ensure that the activities of an occupational
pension scheme (as defined by section 1 Pension Schemes Act 1993) comply with
either section 255 of the Pensions Act 2004 or article 232 of the Pensions
(Northern Ireland) Order 2005 and the rights under the old and new policy are
not significantly different.
Example of the valuation of 'pre-commencement right to death benefits'
On 5 April 2006 Sangita is prospectively entitled to the payment of £4
million in lump sum death benefits. This total does not include any lump sums
that would exceed HMRC limits. It does not include any lump sums in respect of
pension rights to which she is already entitled.
The lump sum rights arise under 3 schemes as follows:
Scheme A - a scheme that is not an occupational pension scheme provides a lump
sum of £500,000. This consists of £200,000 payable as a return of funds and
£300,000 payable under a life assurance policy. The terms of the policy are
varied significantly before Sangita’s death. Therefore only £200,000 is taken
into account initially.
Scheme B - an occupational pension scheme with less than 20 members on 5 April
2006. It provides a lump sum of £500,000 under a life assurance policy. The
terms of the policy are not varied and a sum assured is paid under the policy.
Before death Sangita ceased to be employed by the sponsoring employer of the
scheme. She has not been employed by a person connected with the sponsoring
employer. Therefore the £500,000 lump sum is not taken into account.
Scheme C - an occupational pension scheme with 100 members on 5 April 2006. It
provides a lump sum of £3 million. Variations to the life assurance policy do
not affect the valuation of Sangita’s lump sum rights. Sangita was continuously
employed by the sponsoring employer of the scheme from 5 April 2006 until her
death. She had not become entitled to benefits from the scheme before her
death. So £3 million is taken into account initially.
At the initial stage only £3.2 million is taken into account (being the £3
million from scheme C and £200,000 from scheme A).
Following Sangita’s death a scheme C pays a lump sum death benefit of £2.4
million and a dependant’s pension of £60,000. The pension is paid instead of
paying a further lump sum of £1.2 million. The total potential lump sum payable
from scheme C is £3.6 million and the dependant’s pension proportion is one
third.
Scheme A pays £250,000 as a return of fund. The entirety of the fund at the
date of payment is used to provide the £250,000 lump sum death benefit. There
is no dependant’s pension proportion amount for scheme A.
Applying the dependant’s pension proportion to the value of the lump sum
payable from scheme C on 5 April 2006 (£3 million) gives a dependants’ pension
proportion amount of £1 million. Subtracting this from the £3.2 million (total
amount of lump sums from scheme A and C at initial stage) gives a value of £2.2
million for Sangita’s ‘pre-commencement rights to death benefits.
Penalties
Section 261 Finance Act 2004
An individual who fraudulently or negligently provides false or incorrect
information or documents in connection with a notification may be liable to a
penalty.