Defined Benefit  

New rules result in defined benefit favouritism

New rules result in defined benefit favouritism

Parallel changes to pension drawdown and contributions rules are set to widen an already-massive gulf between defined benefit and defined contribution pension savers, experts have warned. 

In particular, the changes would increase the already-extensive opportunities for defined benefit members to recycle pension tax relief, while clamping down on the ability for defined contribution members to do so, they said.

The changes in question are the reduction of the money purchase annual allowance and the relaxation of trivial commutation rules.

The two policies come out of separate government departments, with HM Treasury responsible for the money purchase annual allowance, and the Department for Work & Pensions for trivial commutation.

Under current trivial commutation rules, a member of a defined benefit scheme aged 55 plus can cash in a lump sum of up to £10,000 out of a DB scheme, or more if the lump sum doesn't push the member's total pension wealth above £30,000.

However, in its much-anticipated DB green paper, published last week, the DWP proposed raising this limit.

Tom McPhail, head of retirement policy at Hargreaves Lansdown, said while this change would "make sense" in the context of pension freedoms but it would also widen the gap between DB and DC savers.

He told FTAdviser: "It would mean DB scheme members enjoying yet another advantage relative to money purchase scheme members who would be caught by the money purchase annual allowance [MPAA], whilst DB scheme members would be free to draw cash and recycle it at will."

The money purchase annual allowance applies only to money purchase, or DC, savers who have began to draw down on their taxable pension, currently imposing a limit on annual top up contributions of £10,000.

According to plans laid out in last November's Autumn Statement, this is set to go down to £4,000 a year in April.

Members of DB schemes, meanwhile, are able to work full time and take their full DB pension without any limit on DC contributions beyond the standard annual allowance (£40,000 a year for most people).

Ruban Sanmuganathan, a chartered financial planner with Plutus Wealth Management, pointed out that any contribution to a DC scheme would receive full tax relief, according to the individual's marginal rate.

That, he said, meant a DB member could in theory recycle their DB benefits into a DC scheme and claim the full tax relief.

He said people were taking full advantage of this apparent loophole.

"It is still possible for a person who is receiving income from a final salary pension to pay the net proceeds of that into a new pension and receive full tax relief on that contribution," he told FTAdviser. 

"I have clients in this situation who are putting in far more than £10,000 per year, let alone £4,000 per year, and are not affected by this rule because they funded the contributions from final salary pensions."

Mr McPhail pointed out that the same could be done with trivial commutation.