Employers and trustees should think twice before using the new uncrystallised funds pension lump sum (UFPLS) rules as the default option for employees to access flexibility and choice in their workplace pension schemes, according to Standard Life.
HM Treasury has proposed that workplace scheme members aged 55 and over should be able to access ad hoc lump sums from their pension pots without having to move into drawdown or buy an annuity. But Standard Life believes this route may not deliver the best employee outcomes, particularly when it comes to accessing the tax free lump sum.
The group has identified several risks to best employee outcomes which may leave employers and trustees exposed:
Perceived lack of choice: If employers and trustees only offer workplace schemes with the UFPLS option, employees may unwittingly assume it is the best approach for them, effectively choosing it as the default approach without understanding that other options may better suit their needs.
Tax implications: Employees using UFPLS will not be able to access their tax-free cash and leave the rest of their pension fund invested. Each withdrawal is regarded as part tax-free cash (25%) and part taxed income (75%) which could be a particular issue for those who are still working and want to access their pension savings early. Any ad hoc withdrawal of funds using UFPLS will increase their income tax bill and could even take them into a higher rate tax bracket. For example, a basic rate taxpayer withdrawing £20,000 will pay £3,000 additional tax (a higher rate tax payer would suffer £6,000 in tax). This is a potentially unnecessary tax bill.
Reduced annual allowance: If a saver who is still working wants to access funds through UFPLS, their annual allowance for contributing to their pension will reduce from £40,000 to £10,000. Anyone who needs to contribute more than £10,000 annually will have limited options, thereby compromising their long-term savings plans and restricting future access to long-term income.
Regulatory gap: The FCA has already established strict rules around providing advice on the income drawdown process to ensure employees understand drawdown risks. However, accessing funds through UFPLS is yet to be regulated by either the FCA or the Pensions Regulator, leaving employees unprotected. By using UFPLS to withdraw from their schemes, employees run the risk of depleting their pension pots without realising it and may have no pension fund to fall back on.
Alastair Black, Head of Customer Income Solutions at Standard Life, said: "While the Government's pension reforms are greatly expanding the retirement options available to employees, this latest uncrystallised funds pension lump sum option is not a panacea for all of their savings needs. Employers and trustees expose themselves to potential reputational and conduct risks. Employers, pension providers and advisers all have a responsibility to ensure employees get the right guidance and that risks are clearly identified when members withdraw funds from their pension pots. People should not be encouraged to make decisions which might not be right for them and employers who offer schemes with only UFPLS as an option for employees to take an income from their pension could do that."
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