Agile IT for pensions technology: Staying ahead of regulatory and pensions tax reforms

17 Apr 2024

Keeping pensions technology up to date

Dunstan Thomas
Pensions Technology

In recent times, updating pensions technology to keep ahead of financial regulatory and pensions tax reforms has become considerably more difficult. This is apparent in recent changes demanded by HM Treasury and the FCA, they are coming in at a greater speed and complexity than ever before.

The announcement of the abolition of the lifetime allowance (LTA) in the Chancellor's Spring Budget 2023 required the removal of the LTA tax charge on 6th April 2023, just 22 days after its first announcement. The LTA itself was abolished at the start of the 2024/25 tax year, on 6th April 2024.

There is no denying the significance of addressing senior medical consultants' complaints about being penalised (in pensions tax terms) when they signed up to do overtime is important in the context of an NHS facing growing demands. However, the sudden, complex nature of the abolishment of the LTA, which has been in effect since April 2006, took many pension providers by surprise. Despite HM Revenue & Customs' (HMRC) collaborative approach with the industry, significant details on the rules were not provided until December 2023, and some significant pension technical details are still outstanding at the time of writing.

Three new pensions allowances

HMRC have introduced three new pensions allowances in the wake of the LTA abolition. They are:

  • Lump sum allowance (LSA) - used to track the amount of non-taxable benefits taken based on a relevant benefit crystallisation event.
  • Lump sum death benefit allowance (LSDBA) - for calculating the non-taxable benefits a beneficiary would receive in the event of a member's death
  • Overseas transfer allowance (OTA) - this allowance is triggered if a member transfers their pension to a qualifying recognised overseas pension scheme (QROPS), in which case the member's pension is tested against the OTA with any excess subject to the overseas transfer charge (OTC)

As a result of the introduction of LSA, a member of a self-invested personal pension (SIPP) or personal pension scheme will receive a tax-free cash (TFC) lump sum of 25% of the pension pot on retirement, up to a maximum of the new LSA of £268,275 (where a member doesn't hold an LTA protection certificate). This amount doesn't have to be taken all at once, and the familiar options of vesting multiple pensions plans one at a time, partial vesting, drip feed drawdown or uncrystallised funds pensions lump sum remain available. This flexibility allows clients to commence their retirement income in the way that best suits them. Once a member has consumed their LSA, all further cash withdrawn will be treated as taxable income.

The LSDBA demands longer-term record keeping. Pension schemes must keep records of all TFC taken as retirement income, of any tax-free element of UFPLS payments and of any serious ill health pension payments received tax-free throughout their lifetime. These are to be deducted from the new LSDBA of £1,073,100. Any balance that is left will be tested against lump sum death benefits, excluding any charity lump sum death benefits or trivial commutation lump sum death benefits.

If death is before age 75, then a lump sum can be paid out tax-free up to this remaining LSDBA. Any lump sum in excess of this will be taxed as income in the hands of the individual receiving it, unless it arose from benefits that were crystallised before 6th April 2024. However, if a death benefit is paid as income, such as with a beneficiary drawdown plan, then it can all be paid tax-free.

However, if death is at age 75 or over, then the LSDBA is not applicable, and the death benefit will be taxed as income in the hands of the recipient, irrespective of whether it is paid as a lump sum or as a beneficiary drawdown.

Rapidly changing pensions legislation

There are numerous changes that require thorough understanding, verification, design, build, and testing within pension administration systems before they go live. Dunstan Thomas been helping our clients prepare for all scenarios and ensure record keeping is accurate to meet the new legal and tax requirements.

It is important to call attention to the fact that none of these pensions tax changes were subject to consultation and each of them have been implemented in under a year, from start to finish. Furthermore, the government has retained the authority to amend the associated legislation by regulation alone. This makes it simpler and faster for the government to introduce further changes or reverse existing ones should the reforms fail to achieve their intended policy objectives after implementation.

The demanding nature of the Treasury and HMRC pensions tax changes, in terms of the rapid implementation of associated system changes, is evident.

The implementation window associated with the FCA's recent 'Dear CEO' letter demonstrates this point to an ever greater degree. The letter, dated 12th December 2023, gave investment platforms and SIPP operators just over two months (including the Christmas break) to implement new systems to disclose rates of retention of interest on retail customer cash balances. Where platforms and operators had been charging fees for holding cash while also retaining some interest earned on that customer's cash, they now needed to communicate to the FCA by the end of January 2024 that this practice would cease before 29 February 2024.

Consumer Duty Whitepaper The deadlines for these changes, focused on delivering fair value under new Consumer Duty obligations, were so tight that Dunstan Thomas had to accelerate delivery of regulatory updates on our Imago Illustrations suite to ensure all customers had applied necessary changes and had enough time to pilot them ahead the 29th February deadline.

Dunstan Thomas had to go through the full change lifecycle, whilst maintaining clear communication regarding the impact to our clients, within four weeks to ensure our clients remain compliant ahead of FCA deadlines. At Dunstan Thomas, we support the calls by both the Lang Cat, and Nucleus' Technical Services Director, Andrew Tully, to set up a long-term savings commission to de-politicise and take a longer-term approach to pension legislation.

If the above cases are anything to go by, it seems we are moving into a new age of speed, where both regulatory disclosure and tax rule changes must be implemented more swiftly than ever before. The lengthy consultation and rule-setting cycles, often taking several years, may now be a thing of the past. It is clear that pensions technology providers need to have processes and systems in place to accommodate full change cycles within months, or even weeks, especially when there's a clear link to Consumer Duty obligations.

The age of needing system agility to make rapid technology updates to facilitate regulatory and tax changes is undoubtedly upon us.

Contact Dunstan Thomas about how we can help you to prepare for future changes.

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Paul Muir
Chief Product Officer at Dunstan Thomas