The lifetime allowance (LTA) rules around Pension Commencement Lump Sum (PCLS) and Uncrystallised Funds Pension Lump Sum (UFPLS) payments before and after age 75 are slightly different. In this article, the Prudential Technical team explains these differences and demonstrate how these work in practice with examples using a standard LTA limit of £1,073,100 (tax year 2021/22).
It is also worth remembering that small pots payments don’t use up any LTA and where these are paid from uncrystallised funds the client can still receive 25% tax-free. Please read this article for further information.
Key points
• The LTA rules for PCLS and UFPLS payments made after age 75 are different
• A PCLS payment cannot exceed an individual’s remaining available LTA
• An UFPLS payment may exceed an individual’s remaining available LTA (they must have some left) but the tax-free portion will be restricted.
Pension commencement lump sum (PCLS) rules
• An individual must have sufficient LTA remaining for a PCLS payment to be made.
• After age 75 the amount that was tested at age 75 under either BCE 5 or BCE 5B is not taken into account when calculating the LTA someone has available.
• Any events that have taken place after age 75 that would have been a BCE (although no BCE has actually occurred as it took place after age 75) is treated as though it was a BCE and has used up LTA.
Uncrystallised funds pension lump sum (UFPLS) rules
• An individual must have some LTA remaining for an UFPLS payment to be made.
• If paid before age 75, an UFPLS must be paid 25% tax free and 75% taxed at marginal rate (no allowance is made for any protected tax-free cash.
• Before age 75, where the amount of the UFPLS exceeds the remaining LTA the excess can still be paid but as a LTA excess lump sum after a 55% tax charge has been deducted (alternatively it could be used to provide income from drawdown or an annuity after a 25% tax charge).
• After age 75, where the amount of the UFPLS exceeds the remaining LTA the excess is taxed as pension income via PAYE, i.e. there is no LTA charge but also no 25% tax free element (the pension funds will have been tested at age 75 and the relevant charge for any LTA excess deducted at that time).
• When calculating the LTA remaining after age 75 the same process is used as when calculating it for PCLS, i.e. ignore BCE 5 or BCE 5B but include events after age 75 that would have been a BCE.
PCLS example
Heather has no LTA protection and has previously crystallised benefits in a defined benefit scheme which used up 40% of her LTA.
On 30 April 2021, she reached age 75 with uncrystallised funds in a money purchase arrangement valued at £700,000. These were tested against her remaining LTA through BCE 5B. She has 60% of £1,073,100 = £643,860 of her LTA remaining so this means she has an LTA excess of £56,140. She decides to leave the funds uncrystallised, so the scheme administrator deducts a 25% tax charge of £14,035 leaving her with £685,965 in her pension pot.
For the purposes of this example we will continue to use the LTA limit for tax year 2021/22 the LTA had been set to receive CPI increases may increase this figure, although this has been frozen until the 2025/26 tax year.
At age 77, Heather then decides to move £321,930 into drawdown and take her maximum TFC. To work out how much LTA she has remaining for the purposes of calculating her maximum TFC entitlement we ignore the amount crystallised under BCE 5B meaning she still has 60% of £1,073,100 = £643,860 of her LTA available and can take 25% of £321,930 = £80,482 and designate £241,447 to drawdown. The scheme administrator then lets Heather know she has used a further 30% of her LTA (£321,930/£1,073,100 x 100% = 30%).
At age 79, Heather decides to move all of her remaining unused fund, which is now valued at £430,000, to drawdown. To work out how much LTA she has remaining the BCE 5B is ignored but the TFC and funds designated to drawdown at age 77 are taken into account. This means she has used up 70% of her LTA and has 30% i.e. £321,930 remaining, so the maximum TFC payment she can have is 25% of £321,930 = £80,482. The remaining £349,518 is then designated to drawdown but this is not a BCE as Heather is over 75 so there is no further LTA test and no excess.
UFPLS example
Jeff has Fixed Protection 2016 which means he has an LTA limit of £1.25m until protection is lost or the standard LTA increases above this amount. We’ll assume the standard LTA limit does not increase above £1.25m for the purposes of this example.
In June 2016, Jeff crystallised benefits valued at £750,000 by taking TFC of £187,500 and designating £562,500 to drawdown. This used up £750,000/£1,250,000 x 100% = 60% of his lifetime allowance.
At age 74, Jeff decides to take an UFPLS payment of £100,000 from his uncrystallised fund. As he has sufficient LTA he can receive 25% of this tax-free and the remaining 75% is taxed as pension income via PAYE. This uses up a further £100,000/£1,250,000 x 100% = 8% of his LTA.
At age 75, Jeff’s remaining uncrystallised fund of £250,000 is tested against his LTA through BCE 5B and uses £250,000/£1,250,000 x 100% = 20%. His previously crystallised drawdown fund is now valued at £687,500 and is tested through BCE 5A, however only the growth over the amount originally designated to drawdown is tested, so this uses £687,500 – £562,500 = £125,000/£1,250,000 x 100% = 10%.
At age 76, Jeff decides to take another UFPLS payment of £200,000 from his unused funds which are now valued at £275,000. To work out how much LTA he has available we ignore the amount used under BCE 5B but not the amount used under BCE 5A which gives a total LTA used of 78% meaning he has 22%, i.e. £275,000 remaining and the full £200,000 can be paid as an UFPLS with 25% tax-free. The scheme administrator then lets Jeff know that he has used a further 16% of his LTA (£200,000/£1,250,000 x 100% = 16%).
At age 80 Jeff decides to take his full remaining unused fund, valued at £90,000, as an UFPLS payment. Jeff has now used up 94% of his LTA and therefore has 6%, i.e. £75,000 remaining so his UFPLS payment would be made as follows:
25% of £75,000 = £18,750 is paid tax-free
The remaining £71,250 is taxed as pension income via PAYE
If Jeff had not reached age 75 before settling this payment, it would have been treated differently. If he asked to take the full £90,000 as a lump sum then the amount in excess of the available LTA would have been taxed as an LTA excess at 55%, as follows:
25% of £75,000 = £18,750 paid tax-free
The remainder of available LTA £56,250 taxed as pension income via PAYE
And £15,000 LTA excess taxed at 55% (alternatively this fund may be designated to drawdown or used to buy an annuity which would make it subject to a 25% charge instead, plus PAYE when income was paid from the arrangement).
