EXPLANATORY NOTE

This clause and schedule make changes, with effect from April 2001, to rules for the approval of, and the tax relief on contributions to, pension schemes. They will create an integrated tax regime covering personal pensions and stakeholder pensions. Pension schemes run by employers where the pension is related only to the contributions made, not to length of service or final salary (occupational money purchase schemes), may apply to the Inland Revenue to be included in this new regime. These changes complement those made to social security legislation in the Welfare Reform and Pensions Act 1999.

In summary the changes being introduced are:

• higher level contributions can be made under the existing personal pension age and earnings related limits. These can continue for up to 5 years after earnings have ceased;

• all contributions from individuals will be paid net of basic rate tax with the pension provider reclaiming that tax from the Inland Revenue;

• employers’ money purchase schemes may opt into this new tax regime;

• new rules will replace the existing personal pension "carry forward/carry back" rules;

• within overall contribution limits, up to 10% of the amount which is paid as a pension contribution can be used for life assurance;

• tax relief for waiver of pension contributions insurance will be simplified, and broadened to circumstances other than ill-health, such as unemployment;

• shares from an approved employee share scheme can, within the contribution limits, be put into the pension and attract tax relief;

• contributors must be resident in UK unless serving, or the spouse of someone serving, abroad and undertaking "Crown duties";

• contributions cannot be made by an individual who is a participant in an employer's pension scheme that has not opted for approval as a DC pension.

• the rules regarding benefits will allow phased vesting from within a single arrangement;

Overall the changes will introduce a single regime for most defined contribution (DC) pensions. One or more of these DC pensions can be held and contributions up to £3,600 (gross of tax) made without any reference to the level of earnings, provided the member is eligible to make contributions in that year. Contributions over £3,600 can be made but are subject to an aged based percentage of net relevant earnings.

The changes mean that for the first time non earners can contribute to a pension. This opens up pension savings to groups such as carers and parents taking career breaks to bring up children.

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Clause 60 introduces schedule 13.

Paragraph 1 of Schedule 13 sets out that what follows amends the Taxes Act 1988. All references to sections or parts in these notes are to Taxes Acts 1988 unless otherwise stipulated.

Paragraph 2 amends section 539 to exclude from the scope of the chargeable events provisions of Chapter II of Part XIII policies of life assurance held in connection with an approved personal pension. This mirrors a longstanding exemption for retirement benefit schemes and retirement annuity contracts. This change will be effective for the year of assessment 2000/01 and subsequent years.

Paragraph 3 amends section 591C, which imposes a tax charge on certain approved retirement benefits schemes when they cease to be approved for tax purposes. The charge will not arise for any retirement benefit scheme that loses its approval solely because it is approved under Chapter IV of Part XIV following an application under the provisions of schedule 23ZA introduced by paragraph 27 of this schedule.

Paragraph 4 amends Section 611 to allow the Board of Inland Revenue to treat a single retirement benefits scheme as separate schemes approved under chapters I & IV of Part XIV. Schemes will be required to differentiate clearly between different classes of members within the single scheme so that it is clear which type of approval is applicable at any time to each member.

Sub-paragraph (2) removes from the definition of "retirement benefits scheme" any schemes that are tax approved under Chapter IV of Part XIV.

Sub-paragraph (3) widens the scope of the existing section 611(3) to give the Board power to consider a single retirement benefits scheme as consisting of one or more retirement benefits schemes and one or more personal pension schemes.

Sub-paragraph (4) widens the scope of the existing section 611(4)(a) to allow the Board to consider scheme members as belonging to different classes or description based on their employer.

Sub-paragraph (5) extends the definition of a scheme member to include members of an approved personal pension scheme.

Paragraph 5 introduces new and amended definitions into section 630.

Sub-paragraph (2) changes the definition of approved scheme. Sub-paragraph (2)(a) prevents an approved retirement benefits scheme from being an approved personal pension. Sub-paragraph (2)(b) changes the definition of approved arrangements so approved personal pension arrangements can include rights originally arising in an approved retirement benefits scheme.

Sub-paragraph (3) changes the definition of pension date so that, if appropriate, the definition of pension date would be subject to Section 638ZA (introduced by paragraph 14 of this Schedule).

Sub-paragraph (4) inserts various definitions into the interpretation of section of Chapter IV of Part XIV.

Sub-paragraph (5) inserts a new sub-section 630(1A) which allows the level of the earnings threshold, inserted by sub-paragraph (4) above, to be amended by Treasury Order.

Sub-paragraph (6) changes the definition of the annual amount of the annuity which would have been purchasable by a person on any date. Sub-paragraph (a) substitutes "personal pension fund" into the definition. "Personal pension fund" is then defined in Section 630, as inserted by paragraph 5 of this Schedule. Sub-paragraph (b) adds a condition to the end of Section 630(2)(a). It covers the annuity which would have been purchasable by a person on any date. That annuity is always considered to be net of any lump sum paid on that date.

Sub-paragraph (7) deletes the current Section 630(3). This has now been duplicated by the changes to Section 630(2)(a) and the definition inserted into Section 630(1) by paragraph 5 of this Schedule.

Sub-paragraph (8) provides that the definitions of earnings threshold and higher level contributions, introduced by paragraph 5 of this schedule, shall have effect for the year 2001/2 and subsequent years of assessment.

Paragraph 6 amends section 631 to give the Board discretion to make the grant of approval to pension schemes under Chapter IV Part XIV subject to specific conditions in a particular case. It also adds schedule 23ZA, set out in paragraph 27 of this schedule, to the sections that restrict the Board's discretion to approve schemes under Chapter IV Part XIV.

Paragraph 7 inserts Schedule 23ZA into the Act. Schedule 23ZA contains the legislative framework for occupational schemes that provide money purchase benefits (occupational money purchase schemes - OMPSs) to apply to be approved under Chapter 4 of Part XIV. Paragraph 27 of this schedule sets out Schedule 23ZA.

Paragraph 8 inserts new section Section 632A, which introduces the concept that somebody must be eligible to make contributions. This is necessary because the introduction of the earnings threshold (introduced by paragraph 5 of this Schedule) means that contributions can be made to a personal pension without having net relevant earnings. Previously the link between net relevant earnings and payment of pension contributions ensured that, for example, non-residents without UK taxable earnings could not make contributions to a personal pension.

Paragraph 9 removes section 633 (2). This means that contracts of insurance for waiver of pension contributions made on or after the 6 April 2001 will not be considered relevant benefits for personal pension schemes and cannot be offered as a scheme feature. A pension contract taken out before 6th April 2001 that allows the policy holder to exercise an option for waiver of contribution insurance, even if this has not been exercised, will count as an existing waiver insurance contract for these purposes, as will an existing contract where premiums may vary.

Paragraph 10 amends section 634A to allow a personal pension scheme to set a single review date for all of an individual’s personal pension arrangements under income withdrawal, and to introduce flexible timing within a 60-day window for making the review.

Sub-paragraph (2) amends Section 634A (4) so that:

Sub-paragraph (3) restates the definition of "relevant reference date" in section 634A (5) to facilitate qualification of the definition in new section 634A(5D).

Sub-paragraph (4) inserts in Section 634A Taxes Act 1998, the following new sub sections:

(5A) applies where:

Sub-paragraphs (5) and (6) provide that this paragraph shall have effect for arrangements under personal pension schemes approved on or after 1 October 2000 or for any existing approved schemes amended to comply with the new rules on or after that date.

Sub-paragraph (7) defines "existing approved scheme" as one approved before 1^st October 2000.

Paragraph 11 amends Section 634A so that, when a member defers the purchase of an annuity and elects instead to take income withdrawals, the member can, if he so wishes, buy two or more annuities with the funds. Currently where funds from a single arrangement are placed into draw down, the whole of the remaining fund must be used to purchase any annuity. The change is complementary to the new Section 638ZA, which is inserted by paragraph 14 of this Schedule.

Sub-paragraph (2) inserts a new subsection (1A). This prohibits the Board of Inland Revenue from refusing to approve the personal pension scheme if it allows funds used for income withdrawals to be used to purchase different annuities which satisfy the conditions of Section 634A.

Sub-paragraph 3 amends subsection (4) so the purchase of an annuity will trigger a review of the annual amount of income withdrawals. Any annuitisation, within three years of the last relevant reference date, will trigger a review if it occurs in either of the first two 12 month periods beginning on the latest reference date. The amount of income withdrawals by the member will be determined by the value of the remaining funds on the day that the last qualifying annuitisation took place.

Sub-paragraph (4) inserts a new subsection (4A) which defines annuitisation and qualifying annuitisation. An annuitisation is only a qualifying annuitisation if it has occurred since the relevant reference date (Section 634A(5)) and in an earlier period of 12 months (Section 634A(4)). For example, for the 12 month period beginning on the fifth anniversary of the pension date (the date when the funds are first placed into drawdown), an annuitisation taking place between the pension date and the third anniversary of that date is ignored because it occurred before the latest relevant reference date (the third anniversary of the relevant reference date). However, the latest annuitisation between the third and fifth anniversary of the pension date would be a qualifying annuitisation. Depending whether it fell before or after the fourth anniversary would determine the timing of the review.

Paragraph 12 amends Section 636A to achieve a similar effect to paragraphs 10 and 11 of this schedule in relation to income withdrawals by a survivor, after the death of a member.

Paragraph 13 amends Section 638 to allow contributions up to the greater of the earnings threshold, as defined in Section 630, or the existing contribution limits for personal pensions. Whether contributions can actually be made at any time will be determined by the eligibility of the member in the year in which he makes a contribution. The eligibility criteria are set out in the new Section 632A introduced by paragraph 8 of this schedule.

Sub-paragraph 2 defines the maximum contribution a scheme can accept as the greater of the earnings threshold or the existing limits set out in Section 638(3)(a).

Sub-paragraph 3makes changes to section 638 arising from the repeal of Section 642 in paragraph 19 of this schedule.

Sub-paragraph 4 is a consequence of Section 638ZA, introduced by paragraph 14 of this Schedule.

Sub-paragraph 5 inserts subsections (9) to (13), which allow shares from an approved employee share scheme to be used as a tax relievable non-monetary contribution to a personal pension within the limits outlined in Section 638(3).

Sub-paragraphs (6) to (8) apply changes in this paragraph for 2001/02 and later years of assessment.

Paragraph 14 inserts a new Section 638ZA, which allows a single arrangement to be used: to purchase one or more annuities; for one or more tranches of drawdown; or a combination of both. The changes allow a single arrangement to provide a flexible range of benefits for the member.

Sub-paragraph (1) inserts Section 638ZA. New subsection (1) sets out the conditions in which this subsection will apply. It allows for the payment of one or more annuity or for elections for drawdown to be made at different times in relation to different portions of the personal pension fund.

Sub-paragraph (2) provides that the Board may approve arrangements offering multiple annuities or elections for deferral for schemes approved on or after 6^th April 2001.

Paragraph 15 revises section 639 to allow all contributions to be paid net of basic rate tax with the providers reclaiming that tax from the Inland Revenue. This gives basic rate tax relief to all contributors. The method of relief is being changed from deduction or set off to relief given to ensure that all contributors paying no tax or tax at a rate lower than basic rate still get full basic rate relief on the contribution. This requires a number of consequential changes elsewhere in this schedule. Any higher rate tax relief can be claimed from the Inland Revenue. Sub-paragraph (2) inserts new sub-sections (1) - (2A) to replace the existing section 639(1) & (2).

Sub-paragraph (3) inserts revised section 639(3) that provides that a contribution shall be paid after a deduction of a sum equal to basic rate income tax on the contribution.

Sub-paragraphs (4) to (6) substitute new sections 639(4) to (6), which require the administrator to accept the contribution after the deduction of an amount equal to the basic rate of income tax and to claim the deduction back from the Board of Inland Revenue and provide for the Board to make regulations to achieve this.

Sub-paragraph 7 allows higher rate relief to be given by increasing the basic rate band by the amount of contribution in respect of the year of assessment. Sub-paragraph 8 is a minor change to reflect the nature of how the relief is now to be given. Sub-paragraph 9 allows for the revised section 639 to apply for 2001/02 and later years of assessment.

Paragraph 16 revises section 640 and makes further changes to allow relief to be given up to the earnings threshold without reference to net relevant earnings. It also limits the amount of relief given in respect of a pension contribution to secure life assurance.

Sub-paragraph (2) allows relief up to the earnings threshold if that is greater than relief based on net relevant earnings and the existing age related percentages.

Sub-paragraphs (3) to (6) limit the relief for life assurance to 10% of the relevant pension contributions paid in the year. Contributions carried back under section 641A, inserted by paragraph 18 of this schedule, will be taken into account when determining whether or not the 10% limit has been exceeded. Where the limit is exceeded, any excess will be repaid under section 638(3)(b).

Sub-paragraph (7) is a consequential change. Sub-paragraphs (8) & (9) introduce these changes from 2001/02 and later years of assessment. The existing rules in section 640(3) will apply to contracts of life assurance taken out before 6^th April 2001. A pension contract taken out before 6th April 2001 that allows the policy holder to exercise an option for life assurance, even if this has not been exercised, will count as an existing contract for these purposes, as will an existing contract where premiums may vary.

Paragraphs 17 and 18 introduce new rules for the carry back of pension contributions to an earlier year of assessment. Contributions paid in 2000/01 or thereafter can be carried back to the previous year of assessment provided an election is made on or before the time of payment and the contribution is paid on or before 31^st January. An election in 2001/02 to carry back to 2000/01will be possible.

Paragraph 19 removes the facility to carry forward unused relief under section 642 for years of assessment after 2000/2001.

Paragraph 20 amends section 645 to allow a member of an occupational money purchase scheme (OMPS) to make contributions up to the limits in s638(3) to both the OMPS and any other personal or stakeholder pension..

Paragraph 21 makes consequential changes to section 646 to reflect the payment of all contributions net of a deduction equal to the basic rate of income tax. Higher rate relief will be given by extension of the basic rate band rather than by deduction or set off.

Paragraph 22 inserts sections 646B and 646C which allow net relevant earnings in one year (the "basis" year) to cover pension contributions above the level of the earnings threshold in the next five years. The member can nominate a subsequent year as the basis year, which can be one of the five years after the initial basis year, if he subsequently wishes to increase pension contributions and his net relevant earnings have increased.

New section 646B(1) allows a member to nominate a year as a basis year provided he has provided requisite evidence to the scheme administrator.

New section s646C gives the Board powers to specify the requisite evidence to establish requisite evidence of earnings for a basis year and the means by which this is to be provided.

Sub-paragraph (2) brings paragraph 22 into force for 2001/02 and later years of assessment.

Paragraph 23 inserts a new section 646D, which allows higher level contributions to continue for five years after relevant earnings have ceased, defined as "qualifying post cessation years". The level of net relevant earnings in one of the six years preceding the first qualifying post cessation year - "the reference years" - determines the maximum amount of higher level contributions in the qualifying post cessation years. Higher level contributions can only be made under section 646D for five years or until the member either joins an occupational pension scheme or is in receipt of relevant earnings. Once this has happened contributions under section 646D can only start again if there is another year in which relevant earnings cease.

Paragraph 24 amends section 651 to allow an applicant to appeal if he is refused permission under Schedule 23ZA, inserted by paragraph 27 of this schedule, to change the tax approval of an occupational money purchase scheme from Chapter I Part XIV to Chapter IV.

Paragraph 25 is a consequential amendment to section 655. It reflects the new method of giving relief under section 639 where all contributions, by individuals, are made after deduction of an amount equal to the basic rate of tax. .

Paragraph 26 amends section 660A, which treats income of a settlement as the income of the settlor for tax purposes under certain circumstances. It is amended to ensure that it does not apply to stakeholder pensions. The opportunity is also being taken to legislate an existing Inland Revenue practice of not applying section 660A to approved pension arrangements more generally.

Sub-paragraph (2) removes subsection (7) from section 660A ICTA 1988. This is no longer required as the exemption it provided is included within the new wider exemption in the new subsection (11).

Sub-paragraph (3) inserts a new subsection (9)(c) into section 660A ICTA 1988 which ensures that benefits under an "approved pension arrangement" are not within section 660A.

Sub-paragraph (4) inserts a new subsection (11) into section 660A ICTA 1988 to define an "approved pension arrangement" for the purposes of section 660A(9). The new exemption applies to pension arrangements that have been approved by the Inland Revenue.

Sub-paragraph (5) applies these changes for 2001-02 and subsequent years of assessment.

Paragraph 27 inserts Schedule 23ZA. The schedule allows money purchase schemes, as defined in the Pensions Schemes Act 1993, run by employers to change their tax approval from Chapter I Part XIV to Chapter IV. Trustees of schemes will do this by application to the Board and schedule 23ZA sets out how this will work. Once made, the switch is irrevocable.

Paragraph 28 applies some of the changes introduced by this schedule to schemes approved under Chapter IV Part XIV before 6^th April 2001. These are:

Sub-paragraph (7) ensures that contributions of already approved schemes cannot exceed the permitted maximum and sub-paragraph (8) lists definitions used in this paragraph.

Paragraph 29 allows evidence already held by scheme administrators, for the purposes of operating the existing personal pension scheme, to be requisite evidence of earnings for the purpose of determining contributions exceeding the earnings threshold.

Paragraph 30 provides that 1^st October 2000 is the earliest date on which an application for approval of a scheme containing the changes included in this schedule can be made.

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The tax approval system relating to pension schemes (both retirement benefits schemes run by employers and personal pension (PP) schemes) gives very favourable tax treatment if certain conditions are met concerning the amount, form and timing of the benefits to be paid to scheme members. The purpose of the tax reliefs is to encourage the provision of pensions in retirement for scheme members.

The legislation governing the tax treatment of retirement benefits schemes and personal pension schemes is found in Chapters I (retirement benefits schemes) and IV (personal pensions) of Part XIV of the Taxes Act 1988 as amended by subsequent Finance Acts.

Currently, anyone contributing to a PP must have "relevant earnings" in the year that contributions are made. Section 644 contains the list of items that constitute "relevant earnings" but roughly it is income from employment (non pensioned) or from a trade, profession or vocation. Pension contributions are therefore normally restricted to times when the member has a source of earned income.

Relief on contributions is calculated as a percentage of "net relevant earnings". These are the "relevant earnings" less various items that attract tax relief from other sources, an example being loss relief. The percentages used are:

Age Percentage

Up to 36 17.5%

36 - 45 20%

46 - 50 25%

51 - 55 30%

56 - 60 35%

61+ 40%

The current PP rules also allow contributions to be carried back to an earlier year and for unused relief to be carried forward for up to six years but, in any year of assessment, the contributions that attract tax relief should not exceed the level of relevant earnings in that year. Individuals whose earnings fluctuate use carry forward and carry back.

Tax relieved pension contributions can be used to insure contributions against sickness but any contributions paid from such an insurance do not attract tax relief. Contributions up to a level of 5% of net relevant earnings can currently be used to pay life assurance premiums.

Employees currently pay net contributions to a personal pension with the provider reclaiming the tax from the Revenue while the self employed pay gross and get their tax relief through their self assessment.

The changes being introduced in the Finance Bill are necessary to facilitate stakeholder pensions. The DSS Green paper "Welfare Reform: Partnership In Pensions" issued in December 1998 suggested that there would be a separate tax regime for stakeholder pensions. Those responding to the green paper (and subsequent consultation paper outlining tax proposals issued in September 1999) were almost unanimous in suggesting that a separate regime would create further confusion. The changes introduced by this clause and schedule therefore introduce a single and simplified tax regime for all types of defined contribution pensions, including stakeholder pensions. This regime simplifies the existing personal pension rules so that:

• anyone not in an occupational pension can pay up to £3,600 a year into a stakeholder regardless of their earnings;

• contributions over £3600 can be made based on earnings, using the age related percentage figures. Further, if earnings allow contributions over £3600 in a year, then the individual is entitled to continue making contributions based on that level of net relevant earnings for a further 5 years, provided he or she remains eligible to make contributions generally. This will allow individuals to plan their pensions savings with a degree of certainty not previously available.

• a simpler form of carryback allows someone making contributions over £3,600 to maximise their contribution in any year where the actual earnings cannot be determined until after the end of the tax year,

 

• all contributions will be paid net so that basic rate tax relief is available regardless of marginal rate;

• life assurance contributions will be linked to pension contributions and cannot exceed 10% of the total annual pension contribution. Tax relief will no longer be available on insurance to cover waiver of premium but contributions paid from such insurance will attract tax relief providing it is within the permitted limits;

• occupational money purchase schemes can opt to be approved under the new regime and be subject to the same rules.

In addition the opportunity is being taken to simplify the burden on scheme administrators. Firstly, the rules are being changed to allow a single arrangement to offer phased benefits. Currently all the benefits from a single arrangement have to be taken at the same time. This has led to providers writing tens or even hundreds of contracts in order to offer the option of phased benefits. The proposed change will remove the need for this.

Secondly, the rules for personal pension income withdrawal (commonly known as income drawdown) are being simplified. Drawdown enables people to draw a pension from their personal pension fund but to defer buying an annuity. At present a review of the amount of pension being paid must take place on the third anniversary of income withdrawal starting. So, where a person takes pension in stages, the result can be multiple reviews at frequent intervals as a review is needed on the third anniversary of each stage. The changes proposed will allow a personal pension scheme to set a single review date for all of a person’s personal pension arrangements under income withdrawal. It will also make the reviews more flexible by introducing a two month window for their completion.

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