Important changes to consider before accessing your pension savings
Many individuals approaching retirement consider taking benefits from their pension schemes. However, accessing certain pension benefits can affect how much you can contribute to defined contribution pensions in the future.
This newsletter explains the Money Purchase Annual Allowance (MPAA) rules, including when the MPAA is triggered and situations where pension payments do not trigger the restriction.
What is the Money Purchase Annual Allowance?
The annual allowance limits the amount that can be contributed to pension schemes each tax year while still benefiting from tax relief.
Normally, individuals can contribute up to the standard annual allowance, subject to their personal circumstances and income levels.
However, once the Money Purchase Annual Allowance (MPAA) is triggered, a lower annual limit applies to contributions into money purchase or defined contribution pension arrangements.
This rule mainly affects individuals who have started accessing their defined contribution pension savings while continuing to work or make further pension contributions.
When is the MPAA triggered?
The MPAA is triggered when an individual takes certain types of flexible income from a defined contribution pension scheme.
Examples include:
1. Taking taxable income through flexi-access drawdown
If you move pension funds into flexi-access drawdown and take taxable income payments, the MPAA will normally apply.
2. Taking an uncrystallized funds pension lump sum (UFPLS)
If you take a lump sum directly from un-accessed pension funds where part of the payment is taxable income, this can trigger the MPAA.
Once triggered, the reduced contribution limit applies from the date of the triggering event.
Payments that do not trigger the MPAA
Not all pension withdrawals activate the MPAA rules.
HMRC confirms that certain pension payments do not trigger the MPAA, including:
Taking a pension commencement lump sum
Taking the tax-free lump sum from your pension does not by itself trigger the MPAA.
Taking benefits through a lifetime annuity
Purchasing a lifetime annuity with pension funds does not trigger the MPAA because the pension funds are converted into a guaranteed income stream.
Taking small pension pots
Certain small pension pot payments do not trigger the MPAA, subject to meeting the relevant conditions.
Receiving certain scheme pension benefits
Payments from defined benefit pension schemes generally do not trigger the MPAA because they are not money purchase arrangements.
Why is this important?
Once the MPAA is triggered:
- Future tax-relieved contributions into defined contribution pensions are restricted.
- The ability to rebuild pension savings through further contributions may be reduced.
- Employer contributions can also be affected because the MPAA applies to money purchase pension savings.
This can be particularly important for:
- Business owners continuing to work after accessing pensions
- Directors making employer pension contributions
- Individuals planning phased retirement
- Employees receiving workplace pension contributions
Example
A company director aged 60 decides to access part of their pension.
Option A:
They take only the tax-free pension commencement lump sum and leave the remaining pension invested.
Result:
The MPAA is not triggered and normal pension contribution rules continue to apply.
Option B:
They start taking taxable flexible income from their pension.
Result:
The MPAA is triggered and future defined contribution pension contributions become subject to the reduced annual allowance.
Planning considerations
Before accessing pension benefits, individuals should consider:
- Whether they expect to continue working
- Whether they or their employer plan to make further pension contributions
- Whether taking taxable pension income now could restrict future retirement planning
- Whether alternative pension options may be more suitable
Disclaimer:
Pension rules and allowances can change, and individual circumstances may affect how the MPAA applies. Seek professional financial advice before accessing pension savings or making pension contribution decisions.
