Uncrystallised Funds Pension Lump Sum (UFPLS)

AI Summary

UFPLS stands for Uncrystallised Funds Pension Lump Sum
Introduced in April 2015 as part of UK pension freedom reforms
Allows direct access to pension savings without annuity purchase or drawdown
Typically consists of 25% tax-free and 75% taxable components
Available to defined contribution pension scheme members aged 55+ (rising to 57 in 2028)
Offers flexibility in managing retirement income
Scheme rules must permit UFPLS withdrawals
Can be taken as a full withdrawal or as smaller lump sums (sometimes referred to as partial UFPLS)
May impact future pension contributions and tax relief through triggering of the MPAA

Uncrystallised Funds Pension Lump Sum (UFPLS) is a flexible pension withdrawal option introduced as part of the UK’s pension freedom reforms in April 2015. This method allows individuals to access their pension savings without the need to purchase an annuity or enter into drawdown arrangements. The term “uncrystallised” refers to pension funds that have not yet been used to provide benefits, meaning they have not been converted into an annuity or placed into drawdown.

UFPLS provides a way to take lump sums directly from uncrystallised pension funds, offering greater flexibility in managing retirement income. Each UFPLS withdrawal is typically comprised of 25% tax-free cash and 75% taxable income, reflecting the tax treatment of traditional pension benefits.

The Structure of UFPLS

The standard structure of an UFPLS withdrawal is designed to mirror the traditional pension benefit structure:

25% Tax-Free Component: This portion of the UFPLS withdrawal is tax-free, similar to the pension commencement lump sum (PCLS) available in traditional pension arrangements.
75% Taxable Component: This larger portion is treated as taxable income for the tax year in which the UFPLS is taken.

This structure applies to each UFPLS withdrawal, regardless of whether it’s a full withdrawal of the pension pot or a series of smaller lump sums. However, it’s important to note that the availability of the tax-free portion depends on the individual’s remaining LSA. If there is not sufficient remaining LSA to cover the 25% tax free element of of the UFPLS payment, the tax free portion of the payment will be reduced up to the remaining LSA, with any excess subject to income tax at the plan holder’s marginal rate.

Eligibility for UFPLS

To be eligible for UFPLS withdrawals, several criteria must be met:

Age Requirement: The individual must be at least 55 years old (rising to 57 in 2028).
Scheme Type: UFPLS is only available from defined contribution pension schemes.
Scheme Rules: The pension scheme must permit UFPLS withdrawals.
Pension Protection: Certain types of pension protection may affect UFPLS eligibility.

Factors that prevent UFPLS Eligibility:

Primary protection or enhanced protection with registered tax-free cash rights.
An enhancement factor, but their available tax-free cash is less than 25%.
Individuals with Scheme specific lump sum protection allowing more than 25% of the fund tax free

Tax Implications of UFPLS

While 25% of each withdrawal is typically tax-free, the remaining 75% is added to the individual’s income for the tax year and taxed accordingly. This can have implications:

Income Tax Bands: Large UFPLS withdrawals may push individuals into higher tax brackets, potentially resulting in a larger tax bill than anticipated.
Emergency Tax Code: The first UFPLS payment in a tax year may be taxed using an emergency tax code, which could lead to overpayment of tax. This can be reclaimed, but it may cause short-term cash flow issues.
When making an UFPLS payment, the tax-free portion must be checked against the individual’s remaining LSA. If there is not sufficient remaining LSA to cover the 25% tax free element of of the UFPLS payment, the tax free portion of the payment will be reduced up to the remaining LSA, with any excess subject to income tax at the plan holder’s marginal rate. The UFPLS payment can still be made even if the plan holder does not have sufficient LSA remaining.
Please note the tax-free portion of any UFPLS payment also counts towards the ‘LSDBA’. The LSDBA is a combined limit for both lifetime tax-free lump sums and tax-free lump sum death benefits. The standard LSDBA is £1,073,100, but individuals with transitional protections may have a higher allowance. This will not be relevant in the case of plan holders who die after their 75th birthday. Please see the LSDBA guide for further details.

Impact on Future Pension Contributions - MPAA

One of the most significant considerations when taking an UFPLS is its impact on future pension contributions. Taking an UFPLS triggers the money purchase annual allowance (MPAA), which reduces the amount that can be contributed to money purchase pensions with tax relief in future years.

As of the 2023/24 tax year, the MPAA is set at £10,000. This is a substantial reduction from the standard annual allowance of £60,000. The MPAA applies from the day after the first UFPLS is taken and affects all future tax years.

This reduction in the annual allowance can have significant implications for individuals who plan to continue working and making pension contributions after taking an UFPLS. It’s particularly important for those considering using UFPLS as a way to supplement their income while still in employment.

Trivial Commutation