PTM062330 - Member benefits: pensions: scheme pensions: scheme pension from a money purchase arrangement
As of 6 April 2024 there is no longer lifetime allowance. If you are looking for information about protections, enhancement factors and the lifetime allowance charge please see these pages on The National Archives. If you are looking for information about the principles of lifetime allowance and benefit crystallisation events please see these pages of The National Archives.
Glossary PTM000001
Where a scheme pension is provided under a money purchase arrangement
Provision of a scheme pension under a money purchase arrangement following payment of a drawdown pension
Where a scheme pension is provided through an insurance company under a money purchase arrangement
Where a scheme pension is provided under a money purchase arrangement
Section 165 pension rules 3, 4 and 6 Finance Act 2004
Paragraph 2(2)(a) schedule 28 Finance Act 2004
Any individual with a money purchase arrangement, that is not a collective money purchase arrangement, must, at the time of starting to take benefits, have the opportunity to use the funds held in that arrangement to secure a lifetime annuity directly with an insurance company of their choice.
Some schemes providing benefits through money purchase arrangements also give their members the option of instead exchanging the funds built up in their arrangement for a promise to pay a certain pension for life direct from the scheme.
There is no defined benefits promise while the member is accruing benefits, but at the time they choose to take benefits the scheme is, depending on the fund size and the member’s circumstances (such as age or life expectancy), prepared to give a guarantee in relation to the fund that has accrued at that point. The risk the scheme is taking on in these circumstances is less than with a defined benefits promise under a defined benefits arrangement. The scheme may decide to carry that risk itself or may arrange an annuity with an insurance company, purchased in the name of the scheme trustees, using the policy as an internal funding device securing their liability to maintain the promised level of pension payments to the member.
A scheme with money purchase arrangements may alternatively offer the member the option of the scheme securing a scheme pension directly with an insurance company of the scheme administrator’s choice. The scheme itself is not at risk. The policy would be in the member’s own name. The rate of scheme pension will then be based on the level of benefit the insurance company is prepared to offer in exchange for the funds in the member’s money purchase arrangement.
PTM062320 gives more information on using an annuity contract to provide a scheme pension from a money purchase arrangement.
Provision of a scheme pension under a money purchase arrangement following payment of a drawdown pension
If the scheme rules allow, a scheme pension can be provided from a money purchase arrangement, that is not a collective money purchase arrangement, following a period of drawdown pension, with the scheme pension being provided from the surrender of the drawdown pension fund or flexi-access drawdown fund.
Where a scheme pension is provided through an insurance company under a money purchase arrangement
Sections 161 and 165 pension rules 4 and 6 and paragraph 2(2)(a) schedule 28 Finance Act 2004
Where a scheme pension is provided under a money purchase arrangement through a policy with an insurance company it will usually be purchased in the name of the member, establishing a contract between the insurance company and the member. In such a case the insurance company becomes liable to maintain the required pension payments directly to the member. Nevertheless, such payments are still treated as if they were made by the purchasing registered pension scheme for the purposes of the authorised payment rules. Payments made by the insurance company that are not within the scheme pension rules will be unauthorised payments, and taxed as such.
Where a scheme providing benefits through money purchase arrangements offers a member the scheme pension option, there will be a clear choice for the member - either to accept the scheme pension offer given by the scheme or insurance company or decline and take the open market lifetime annuity route.
Where a scheme pension is provided from outset direct from the scheme
If the member selects the scheme pension offer made by a scheme (rather than an insurance company) their entitlement is set under the scheme rules, and the liability to pay the pension at a certain level for life along with any prescribed level of pension increases year-on-year remains with the scheme. The member loses the right to the relevant funds held in their arrangement or arrangements.
The scheme may subsequently choose to secure their liability for that pension with an insurance company. The choice of insurance company is for the scheme administrator.
The annuity contract will mirror the liability of the scheme (which the scheme is effectively insuring against, by paying the insurance company to take on the risk). It is not a ‘lifetime annuity’ for the purposes of the pension tax rules. The scheme trustees will usually receive the income from the annuity and use this to make the scheme pension payments to the member, but may instead delegate the pension payment function to the insurer as the trustees' paying agent.
Where a scheme pension is provided from outset by an insurance company
If the scheme pension entitlement is provided at outset directly from an insurance company using a policy in the name of the member, then the process involved is essentially the same as where a lifetime annuity is purchased, although what is secured is not a ‘lifetime annuity’ for the purposes of the pension tax rules. The insurance company offers to pay the member a certain level of pension in return for a certain level of consideration from the scheme. The funds held in the arrangement are paid over to the insurance company in return for that lifelong income stream.