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Question: I am 79 and retired in 1999 and took a £65,000 tax-free lump sum along with receiving my defined benefit pension. During the 2000s, I returned to work part-time and contributed to a second pension. In 2022, I had to pay HMRC because I exceeded the lifetime allowance. I now want to start taking money from my second pension – am I entitled to any more tax-free cash?
Answer: Your pension benefits span three tax regimes: the rules before A-day in April 2006, the lifetime allowance system that followed, and the regime introduced in April 2024. Because you first took a pension income in 1999 and faced what is known as a “crystallisation test” at age 75, working out whether you can take any tax-free cash from your stakeholder pension is particularly complicated.
Let’s start by looking back at what happened previously. Between 2006 and 2024, when pensions were “crystallised” – for example, when income or cash was taken – they were tested against the lifetime allowance.
The lifetime allowance was the total amount of income and tax-free cash someone could take without facing a lifetime allowance tax charge. At age 75, there was an additional test for any untouched pension savings and investment growth in drawdown funds.
Where a pension began before April 2006, its value was included in the first crystallisation test after that date. The pension provider calculated the value by multiplying the annual pension in payment at the time of the test by 25.
At your age-75 test, the combined value of your defined benefit pension plus the untouched pension exceeded the lifetime allowance, resulting in a lifetime allowance charge.
Fast forward to today. Under the current rules, you can withdraw any amount as taxable pension income without a tax charge.
Tax-free lump sums taken during your lifetime are normally capped by the £268,275 lump sum allowance. A separate lump sum and death benefit allowance, usually £1,073,100, limits tax-free lump sums paid during your lifetime and after your death.
Benefits taken under previous regimes are counted when working out today how much of these allowances someone has already used. A standard transitional calculation generally assumes that 25 per cent of previously crystallised benefits was taken as tax-free cash.
In most circumstances, the lifetime allowance used by that test is disregarded. However, the standard calculation still uses the value assigned in 2022 to your pre-April 2006 pension and assumes that 25 per cent tax-free cash was taken when those benefits began.
People who took less than 25 per cent tax-free cash from earlier benefits may be able to instead apply for a Transitional Tax-Free Amount Certificate (TTFAC). This replaces the general assumption that 25 per cent of the benefit taken was tax-free cash with the actual amount of tax-free cash received.
Although a transitional certificate can help some people, it is unlikely to help you. The certificate still assumes that 25 per cent of the benefits taken before April 2006 were taken tax-free, using the value worked out for your defined benefit pension at your age-75 test in 2022.
So, if you haven’t taken any other pension benefits not mentioned, the standard calculation and a transitional certificate should therefore produce the same result in your case.
Whether any tax-free cash allowance remains depends on the 2022 valuation of your pre-April 2006 pension. If 25 per cent of that value was £268,275 or more, you have no Lump Sum Allowance left. If it was lower, some allowance may remain.
These are highly technical rules, and applying for a certificate may become irreversible once further benefits are taken. Before drawing from the stakeholder pension, you may want to ask a regulated financial adviser experienced in transitional certificates to check both calculations and whether an application would be worthwhile.
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