PTM062580 - Member benefits: pensions: drawdown pension rules immediately before 6 April 2015: flexible drawdown pensions (up to 5 April 2015)
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 |
Flexible drawdown (up to 5 April 2015)
The difference between flexible drawdown and capped drawdown (up to 5 April 2015)
Qualifying to take pension as flexible drawdown (up to 5 April 2015)
Pension contributions when in flexible drawdown (up to 5 April 2015)
The effect of automatic or auto-enrolment on flexible drawdown (up to 5 April 2015)
Pensions Act 2008 provisions for automatic enrolment (up to 5 April 2015)
Auto-enrolment that is not under Pensions Act 2008 provisions (up to 5 April 2015)
Switching from one type of drawdown to the other (up to 5 April 2015)
Choosing how much and when to take payments under flexible drawdown (up to 5 April 2015)
Putting (designating) funds into a flexible drawdown pension fund (up to 5 April 2015)
A flexible drawdown pension fund can be used to purchase other pension benefits (up to 5 April 2015)
Note: Flexible drawdown funds in existence immediately before 6 April 2015 are from that date automatically treated as flexi-access drawdown funds, which have different rules. No new flexible drawdown funds can be set up from that date. For guidance on flexi-access drawdown funds, see PTM062700.
Flexible drawdown (up to 5 April 2015)
Paragraph 14A (1) Schedule 28 Finance Act 2004
Flexible drawdown is a form of ‘income withdrawal’ where the pension is paid direct from the pension scheme. There is no limit on the amount that the pension scheme can pay the member in any year. They can take as much or as little as they like. If they want to, they can take out all the funds in their arrangement as one payment. All payments of flexible drawdown are taxed under PAYE.
The tax rules allow registered pension schemes to offer flexible drawdown but they do not require them to do so.
An individual must meet certain conditions to qualify for flexible drawdown (see below).
There is another type of ‘income withdrawal’ drawdown pension called capped drawdown (see PTM062510 onwards).
The difference between flexible drawdown and capped drawdown (up to 5 April 2015)
Paragraphs 7 and 14A (1) Schedule 28 Finance Act 2004
Both flexible drawdown and capped drawdown are a form of ‘income withdrawal’. Both types of drawdown pension are taxed as pension income.
With flexible drawdown there is no limit on the amount of drawdown pension that can be taken each year. There is also no need for the pension fund to be reviewed to work out the maximum possible pension.
However not everyone can take flexible drawdown. In particular a person must be getting a minimum amount of secure pension income every year to qualify for flexible drawdown - see PTM062590 for more detail. For flexible drawdown declarations made between 6 April 2011 and 26 March 2014, this amount was £20,000. For flexible drawdown declarations made on or after 27 March 2014, the amount was £12,000.
With capped drawdown there is a limit on the amount of pension the member can take from the scheme each year. This limit is regularly reviewed by the pension scheme. Under the tax rules anyone who has benefits in a money purchase arrangement can use capped drawdown. However not all schemes offer this option.
Guidance on capped drawdown is at PTM062510 onwards.
Qualifying to take pension as flexible drawdown (up to 5 April 2015)
Section 165(3A) and (3B) and paragraph 14A Schedule 28 Finance Act 2004
The Registered Pension Schemes (Relevant Income) Regulations - SI 2011/1783
If the scheme offers this facility, the member can take their pension as flexible drawdown if they meet the flexible drawdown conditions. These are:
- pensions must be in payment from other sources of at least a certain amount (called the minimum income requirement) payable in the tax year in which the flexible drawdown declaration is made. In other words, it is the amount of pension received that counts not the annual rate of the pension, so the member must actually be due to receive pension income at least equal to the minimum income amount in the declaration year.
- for declarations made before 27 March 2014, the required minimum amount of other pension income was £20,000. For declarations made on or after 27 March 2014 the required minimum amount of other pension income is £12,000.
- for example, a member starts to receive their pension on 1 December 2011. Their annual pension is £36,000 payable in arrears in equal monthly instalments and they receive £12,000 pension in tax year 2011-12. This pension alone will not allow them to meet the minimum income requirement for that year. However they will meet it the following year because they will have received a full year’s worth of pension at the annual rate of £36,000 in the relevant tax year.
- to take another example, a member starts to receive their pension on 1 December 2013 when the minimum income requirement is £20,000. Their annual pension is £12,000 payable monthly in arrears and they receive £4,000 pension in tax year 2013-14. This pension alone will not allow them to meet the minimum income requirement for that year. However, if they make a flexible drawdown declaration on or after 6 April 2014, they will meet the minimum income requirement because they will have received a full year’s worth of pension at the annual rate of £12,000 in 2014-15, and for declarations made on or after 27 March 2014 the minimum income requirement is £12,000.
- they must have received at least one payment from each pension in payment for it to be included in meeting the minimum income requirement.
- they cannot be building up benefits under any defined benefit or cash balance arrangements held under a registered pension scheme when they make their declaration (i.e. they must have ceased to be an active member. Note - they will still be classed as an active member if their benefits continue to be linked to their current salary even though no additional service related benefit is accruing).
- they cannot have made any contributions to any other money purchase arrangement held under a registered pension scheme in the tax year that they go into flexible drawdown. Also no one else should have made contributions to the other money purchase arrangements in that tax year, and
- the member must give the scheme administrator a declaration, which the scheme administrator accepts and which contains information set by HMRC. As set out above, a declaration cannot be made until the tax year in which no contributions have been made.
Pension contributions when in flexible drawdown (up to 5 April 2015)
Section 165(3B) Finance Act 2004
To qualify for flexible drawdown the member:
- must stop building up benefits under any registered pension scheme in which they have defined benefits or cash balance benefits. In other words they must have ceased to be an active member at the time they make the declaration; and
- cannot make any contributions to any other money purchase arrangement under any registered pension scheme in the tax year they go into flexible drawdown. Neither can their employer or anyone else pay contributions to their other money purchase arrangement during the tax year.
Although this does not stop them starting to make contributions or resuming active membership in future tax years, doing so will mean their whole contribution will be liable to the annual allowance charge. If their employer, or anyone else, contributes to any other money purchase arrangement for them, they will also be liable to the annual allowance charge on these contributions. Payment of any contracted-out payments from HMRC do not count as contributions for this purpose.
The member will also be liable to the annual allowance charge if they start building up benefits again (become an active member) under a defined benefits or cash balance arrangement.
Subject to the normal rules for relievable contributions, any contributions paid will be tax relievable but this tax saving will be counter-balanced by the annual allowance charge (see PTM051600).
The effect of automatic or auto-enrolment on flexible drawdown (up to 5 April 2015)
Some employers automatically put their employees into their pension scheme. From October 2012, under the provisions of Pensions Act 2008, some employers will be subject to the automatic enrolment duty and will be required to automatically enrol their employees into a pension scheme. If a member has taken flexible drawdown and this happens, it may have an impact on them as explained below.
Two of the conditions required to take flexible drawdown are that:
- a member cannot be building up benefits under any defined benefit or cash balance arrangements held under a registered pension scheme when they make their declaration (i.e. they must have ceased to be an active member. Note - they will still be classed as an active member if their benefits continue to be linked to their current salary even though no additional service related benefit is accruing), and they cannot have made any contributions to another money purchase arrangement held under a registered pension scheme in the tax year that they go into flexible drawdown.
- no one else should have made contributions to the other money purchase arrangements in that tax year.
So automatic enrolment (or ‘auto-enrolment’) in a registered pension scheme will normally mean that the above conditions cannot be met in the tax year in which this happens. However this does not stop the conditions being met in tax years following that in which the enrolment took place.
But if a member in flexible drawdown does start to make contributions or resume active membership in future tax years e.g. as a result of automatic enrolment or auto-enrolment, their whole contribution will be liable to the annual allowance charge. If their employer, or anyone else, contributes to another money purchase arrangement for them, they will also be liable to the annual allowance charge on these contributions. Payment of any contracted-out payments from HMRC do not count as contributions for this purpose.
They will also be liable to the annual allowance charge if they start building up benefits again (become an active member) under a defined benefits or cash balance arrangement.
Subject to the normal rules for relievable contributions, any contributions paid will be tax relievable but this tax saving will be counter-balanced by the annual allowance charge.
Pensions Act 2008 provisions for automatic enrolment (up to 5 April 2015)
If an employer is subject to the automatic enrolment duty and automatically enrols an employee into a new pension scheme under the provisions of Pensions Act 2008, the employee will have one month from the enrolment date to opt out of the new scheme. If they opt out within that one month period then the law treats them as if they were never a member of the pension scheme and in law any monies paid into the scheme by the member or their employer will not be contributions and are refunded. So if a member is subject to automatic enrolment by their employer under the Pensions Act 2008 provisions and opt out within one month they can still meet the flexible drawdown conditions. If they do not opt out in time then they will not be able to meet the flexible drawdown conditions mentioned above. The employer will have a duty to automatically enrol those who have opted out every three years, so they may need to opt out within one month each time this happens.
If a member changes employer and their new employer is subject to the automatic enrolment duty under Pensions Act 2008, they will be required to automatically enrol the member into their pension scheme. If the member wishes to make a flexible drawdown declaration in the tax year of enrolment or if they have already entered flexible drawdown and wish to avoid any potential annual allowance charges, they will need to opt out of their new employer's pension scheme when they are automatically enrolled.
Auto-enrolment that is not under Pensions Act 2008 provisions (up to 5 April 2015)
If an employer auto enrols its employees into their pension scheme and this is NOT under the Pensions Act 2008 provisions then if this happens in the tax year the member wishes to make a flexible drawdown declaration or at any time if they have already made a valid declaration, they may not be able to avoid the consequences mentioned above by opting out of the scheme.
If they are enrolled into a defined benefits scheme with a legally binding rule that treats those who opt out of scheme membership as never having been a member of the scheme they will never have been an active member of that scheme. If the arrangement into which they are auto enrolled is a money purchase (defined contributions) arrangement and they have cancelled the pension contract relating to the scheme under the FCA cancellation rules (with the result that the contract is therefore treated as void from the start), there will have been no contributions made that would affect their ability to meet the flexible drawdown declaration conditions.
In any other circumstances, if they wish to take/have taken flexible drawdown and they change employment, they will need to speak to their employer or prospective employer at an early stage to avoid being enrolled at all. Their employer will be able to tell them how they can do this.
Switching from one type of drawdown to the other (up to 5 April 2015)
Section 165(3B) Finance Act 2004
If the conditions for flexible drawdown are met, the member can change from capped to flexible drawdown.
It is not possible to switch from flexible drawdown to capped drawdown. The test on whether or not a member qualifies for flexible drawdown is a once and for all test carried out at the start of flexible drawdown. The decision to move to flexible drawdown is irrevocable under the tax rules and a member can’t lose the ability to take drawdown pension using flexible drawdown. Once they are in flexible drawdown it is for them and their scheme administrator to decide how much they take out and how often. The amounts drawn under flexible drawdown may be similar to or different from the amounts allowed under capped drawdown. However, there are tax consequences if they subsequently make contributions to or resume active membership of any registered pension schemes after taking flexible drawdown.
Choosing how much and when to take payments under flexible drawdown (up to 5 April 2015)
Section 165(3B) and paragraph 10 Schedule 28 Finance Act 2004
The tax rules do not set any limit on the amount that can be paid under flexible drawdown. However, a registered pension scheme can choose to set its own limits on the amount it will pay at any one time.
Subject to this, a member can choose how much and when to take payments under flexible drawdown, a member can draw down all of their funds in one go as long as their pension scheme allows this. The scheme will deduct income tax from the payment.
Putting (designating) funds into a flexible drawdown pension fund (up to 5 April 2015)
Paragraph 10 Schedule 28 Finance Act 2004
A member can arrange their affairs so that they designate funds into drawdown pension at different times. This can be done under the same arrangement or using different arrangements under the same scheme.
As there is no limit on the amount that can be taken from a flexible drawdown pension fund the scheme administrator does not need to carry out any maximum drawdown pension calculations whenever a member designates funds as available for the payment of flexible drawdown.
If the member is under 75 the designation of funds to provide a drawdown pension will trigger a test against the lifetime allowance. Guidance on this process can be found at PTM088610.
A flexible drawdown pension fund can be used to purchase other pension benefits (up to 5 April 2015)
Paragraph 10 Schedule 28 Finance Act 2004
All or part of a flexible drawdown pension fund can be used to buy a lifetime annuity. If the member is under 75 the purchase of the lifetime annuity will trigger a test of their benefits against their lifetime allowance. Guidance on how this lifetime allowance test is applied is at PTM088640.
All or part of a flexible drawdown pension fund can be used to buy a short-term annuity. With flexible drawdown there is no limit on the amount that can be taken at any one time. So the scheme will not have to consider how much the member is being paid from their short-term annuity when making payments direct to them from their drawdown pension fund.
Finally, all or part of a flexible drawdown pension fund can be used to provide a scheme pension. If the member is under 75 the provision of a scheme pension will trigger a test of their benefits against their lifetime allowance. Guidance on how this lifetime allowance test is applied can be found at PTM088620.