Beware: Are pension lump sums now taxable?
The Government Actuary’s Department has published revised commutation factors for calculating lump sum payments on retirement from the police pension scheme and this will apply to any member who retires on or after 20 April 2011. It is important to appreciate how these changes could affect you and the important decisions you take upon retirement.
As most officers will be aware before 20 April 2011, a maximum of 25% of the pension could be taken as a tax free lump sum, known as the commutation.
The factors for calculating pension entitlement for all ages have been increased, which means that the value of the commutation for all individuals will also increase, potentially to more than the 25% figure. Payment of a lump sum must comply with the tax rules and to be tax exempt, it must not exceed 25%. If the commuted lump sum does exceed 25% will be subject to an initial tax charge of 40%.
This is not all however and there will be a surcharge increasing the tax liability to 55% and a potential for a further 15% surcharge, imposed by the Inland Revenue. This would give a potential liability of 70% on any amount received as commutation over and above the 25% limit.
It is important that all officers approaching retirement should obtain independent financial advice on their options in retirement and whether the full commutation should be taken. It may be that in some cases an officer may be better to take less commutation and therefore avoid the tax liability and receive a higher monthly pension as a result. This change could also have implications when negotiating a divorce settlement.
There are various ways in which pensions can be dealt with upon divorce. In some situations, police officers agree to give their spouses a deferred lump sum and so they agree that on retirement they will pay their spouse either a fixed amount or a percentage of their commutation. In some cases, the officer gives a promise to the Court and their spouses to take their full lump sum on retirement. The tax implications of such a decision must be carefully considered.
If an officer is one who has given such a promise but will also be subject to being taxed on the excess over and above the 25% maximum non taxable commutation, then care should be taken before reaching such an agreement.
At Russell Jones and Walker we pride ourselves in keeping up to date with the latest changes to affect your pensions to enable us to advise you in respect of your settlement.
