Income
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Members
reduced benefits
Under section 31 of the Welfare Reform and Pensions Act 1999
(WRPA 99) there are provisions for the reduction of a members
pension rights as a result of the creation of a pension debit
due to a pension
sharing order.
The effect of a pension debit is to reduce the value of a members
retirement benefits, determined from the provider as the CETV
Method or alternatively an adjusted
CETV from a pensions expert if the court requires expert
evidence to be provided during ancillary
relief proceedings, by the percentage ascertained by the
court order or as agreed by the parties through their solicitors.
If the order or agreement is in terms of a specified amount,
then the reduction will be by the percentage the amount represents
of the value of the retirement benefits.
Where the members pension rights are accrued through a money
purchase scheme such as a personal
pension, retirement annuity policies (RAPs) or stakeholder
pensions the pension
debit will be applied to the pension fund value, usually
being the cash equivalent transfer value (CETV), as a once and
for all percentage reduction. The provider will implement this
percentage value in the name of the former spouse if dual membership
is permitted as an internal
transfer or as an external
transfer to another pension arrangement if an internal transfer
is not allowed. There will be no further impact on the remaining
members pension rights.
The calculation of a members reduced benefits for an employers
final salary
pension is more complex than the money purchase scheme and
will involve the pension arrangement provider recording the
pension debit as a negative
deferred pension, to be applied at some time in the future
at the scheme members normal pension age (NPA) or an alternative
age if early retirement is selected.
Minimum
funding requirement
Under section 56 to 61 of the Pensions Act 1995 the minimum
funding requirement (MFR) was introduced to help occupational
pension schemes such as a final salary pension to offer the
members more security.
MFR does not apply to occupational
money purchase schemes in general unless that scheme also
provides other salary related benefits that are subject to MFR.
On the discontinuance of the scheme, MFR is designed to ensure
that the scheme will have sufficient assets to secure all pensions
in payment to pensioners as well as pay a cash equivalent transfer
value (CETV)
for all active members and deferred members not yet in receipt
of a pension income.
The minimum funding requirement was effective from 6 April 1997
and the scheme
trustees must put in place a scheme that covers the next
five years from the date of the actuarial valuation showing
that the contributions
made are sufficient for the scheme to be 100.0% funded. There
is a transitional period of 5 years that ends on 5 April 2002.
Where the valuation shows the scheme to be below 90.0% funded
to the MFR level the schedule must show that the scheme will
be at least 90.0% funded by one year after the transitional
period, or 5 April 2003.
Where the valuation shows funding of 90.0% to 100.0% the transitional
period is extended by 5 April 2007. In certain circumstances
a seriously underfunded
scheme can apply to the Occupational Pension Regulatory Authority
(OPRA)
to have these time limits further extended.
Money
purchase scheme
Where a scheme member can contribute to a pension fund and the
benefits at retirement age are uncertain, as they are dependent
on the size of the funds under management, but the contributions
are known then this is referred to as a defined
contribution scheme. A defined contribution can be made
to a money purchase scheme and could be operated by an employer
as an occupational money purchase scheme, a group personal pension
(GPP)
or simply established by a person as an individual policy such
as stakeholder
pensions.
Since 6 April 2006, Pension Simplification has established a Lifetime Allowance for the size of an individual's money purchase scheme fund to £1.5 million in 2006 rising to £1.8 million in 2010. At retirement a tax free lump sum of 25% can be taken with the remaining fund being used to purchase an annuity or placed within an income drawdown arrangement.
The Annual Allowance for contributions is set at £215,000 for 2006 rising to £255,000 in 2010. Tax relief on contributions is limited to contributions of £3,600 per annum or 100% of relevant earnings if greater. Any investment growth or loss
in the value of the fund for all money purchase schemes, whether
private pensions or occupational pensions, are not included
in the annual allowance. For all money purchase schemes the retirement benefits
can be taken between 50 to 75 years of age until 2010 when the minimum is to be raised to 55 years of age.
Prior to A-Day the amount of retirement benefits from a money purchase scheme
were unlimited but the members contributions were limited and pensionable
earnings subject to the earnings
cap. The contributions were based on the members
age from 17.5% up to 40.0% with a tax
free cash of 25.0% taken before the balance is used
to purchase a pension income. A free standing additional voluntary contribution (FSAVC)
scheme linked to an occupational pension regime limited the member's contributions to 15.0% of pensionable
earnings.
Mortality
The expected age an individual can live to is reflected in mortality
tables that are based on the population as a whole. The use
of mortality tables is important to life companies offering pension annuity and purchase
life annuity incomes. A persons mortality depends on their
current age, therefore a 50 year old male can be expected to
live to age 83 whereas a 70 year old male is expected to live
to 87 years of age.
Some annuitants live beyond these life expectancies and as a
result, receive more money from the annuity income than the
original pension
fund plus interest. This is particularly the case where
the annuitant has a With
Profit annuity as the bonuses declared depend on equity
performance and returns are greater than a conventional annuity
in the long term. Other annuitants die early and receive only
a fraction back from their original pension fund capital and
creating a mortality profit for the insurance company.
This means that an individual with poor health and lower life
expectancy will find an annuity unattractive. Life companies
offer an enhanced
annuity or impaired
life annuity for people with shorter life expectancies such
as smokers, people that are overweight, of a certain occupation
or even living in a particular location in the UK.
Where a family with an elderly relative that now requires 24
hour care after suffering an illness, their age, mortality and
medical condition would usually enhance the rate paid by an immediate
needs annuity. This means the long
term care costs for a nursing home could be met with a reduced
lump sum from the estate.
Mortality
profit
Annuity providers make a profit from the fact that some members
die sooner than expected. By deferring buying a pension
annuity or even a purchase
life annuity the individual is not able to share in the
profit available from current annuity rates and this is known
as mortality risk.
The resulting mortality profit will in part be used to enhance
annuity rates
or for With
Profit annuities the bonuses declared. Delaying the purchase
of an annuity means the individual forgoing potential profits
and the longer the delay the greater will be the loss in potential
profits.
Mortality
drag
Annuity rates are based on the life expectancy of the member,
whether they buy a purchase
life annuity or a pension
annuity. Those that live longer than others will over time
receive their original pension fund value plus interest. Some
members will die without receiving even their original fund
value. This results in a mortality profit of which surviving
annuitants will benefit with higher annuity as a result of a
cross subsidy.
If the pension scheme member at retirement
age chooses drawdown rather than an annuity, the member
will not benefit from the mortality profit and thereby creating
a mortality risk. To compensate for this loss of mortality subsidy,
pension drawdown
will have to achieve an extra investment return. This also applies
to anyone that chooses to delay purchasing an annuity in the
hope that the rates will improve in the future, resulting in
a cost of delay.
The Financial Services Authority (FSA) estimate that at age
60 the extra return required is 1% but by 75 it could be as
high as 4%. This will result in a mortality drag and is effectively
a loss against the investment return as a result of the member
deferring the purchase of an annuity.
Disclaimer:
Information found on this site does not amount to financial advice or
legal advice. Every time you access the website you agree to be bound
by the Terms and Conditions.
If you do not agree to be bound by them, you should not use the sharingpensions.co.uk
website. Before taking any action regarding pensions, pension on divorce
or any other financial or legal matter you should seek professional
advice.
