Chapter 8 - Flexible income options

Question 1

An additional rate taxpayer is aged 66 and his only pension is an uncrystallised personal pension of £850,000. What gross UFPLS must he take to receive a lump sum of £30,000 after all tax has been paid?

a.£42,857.

b.£54,545.

c.£50,000.

d.£45,283.

Answer 1

d.£45,283.

the taxable portion of the UFPLS will fall fully into the additional rate tax band. Therefore, to calculate how much of his pension fund
must be crystallised we have to work out the net amount that will be received for every £100 crystallised.

£100 x 25% = £25 (Tax free amount)

£75 x 0.55 ( 100% less the 45% for additonal tax rate) = £41.25

per £100 they get £25 + £41.25, £66.25, or another way of saying this is they get 66.25% of the £100.

to find out how much we need all we do is divide the target amount by this percentage

£30,000/0.6625= £45,283

Chapter reference 8D3

Question 2

To help consumers make informed decisions about pensions the Government introduced a guidance guarantee. Which of the following is NOT a feature of guidance?

a.Specific products will not be recommended.

b.The requirement to pay a fee.

c.Consumers are provided with key facts about the consequences of the relevant options.

d.The consumer will receive a record of the discussion for future reference.

Answer 2

b.The requirement to pay a fee.

Difference between advice and guidance, advice involves a fee and is specific to a client guidance has no fee and is more generic no fact finding etc

Chapter reference 8C4

Question 3

Claudia, who is 62, has total income of £65,000 in the current tax year. If she wishes to take a gross UFPLS of £20,000, how much will Claudia receive after all of the income tax has been settled?

a.£20,000.

b.£17,000.

c.£14,000.

d.£12,000.

Answer 3

c.£14,000.

typically 25% of the funds
taken is paid tax free and the remainder is taxed as pension income via PAYE.

25% of £20,000 is tax free so £5,000

£15,000 is taxable at 40%

£15,000 x 0.6 = £9,000

£9,000 + £5,000 = £14,000

Chapter reference 8A

Question 4

What restrictions are there on taking withdrawals from a pre-April 2015 capped drawdown pension?

a.Income is subject to no maximum but a minimum of 25% of the basis amount must be taken.

b.Income is subject to a maximum 100% of the basis amount, but no minimum level of income.

c.Income is subject to a maximum 150% of the basis amount, but no minimum level of income.

d.Income is subject to no maximum but a minimum of 50% of the basis amount must be taken.

Answer 4

c.Income is subject to a maximum 150% of the basis amount, but no minimum level of income.

The withdrawals under capped drawdown are subject to a maximum income level, but
no minimum income level. The maximum each year is expressed as a percentage of an equivalent annuity that could be purchased with the member’s drawdown pension fund.

This equivalent annuity is known as the basis amount and the maximum income level is set
at 150% of the basis amount

Chapter reference 8B1A

Question 5

Zara is a member of her company’s occupational defined contribution pension scheme. The scheme has a protected pension age of 50 and Zara’s fund value is £100,000. When Zara reaches her 50th birthday in October 2024, she would like to take an UFPLS of £20,000 from the scheme. She should be aware that:

a.she can take the UFPLS of £20,000, but she must also crystallise the remaining £80,000.

b.the option of taking an UFPLS from an occupational pension scheme is not permitted in any circumstances.

c.if she wants to take an UFPLS it must be for the full £100,000.

d.she can do this and the remaining £80,000 can be left uncrystallised.

Answer 5

a.she can take the UFPLS of £20,000, but she must also crystallise the remaining £80,000.

A member with a protected pension age who takes an UFPLS before the normal minimum pension age (currently age 55) must take all the benefits associated with that scheme.

This does not mean the whole fund has to be taken as an UFPLS – they could take part of the fund as an UFPLS and the balance could be used to purchase a lifetime annuity or
- access flexi-access drawdown. However, they cannot use part of the pension to provide an UFPLS and leave the balance uncrystallised.

Chapter reference 8A1

Question 6

When illustrating a drawdown income, what does the Type A critical yield show?

a.The growth rate needed to provide, and maintain, an income equal to that obtainable under an equivalent immediate annuity.

b.The growth rate needed to ensure the income selected is sustainable until the member’s average life expectancy.

c.The growth rate needed to ensure the income selected is sustainable until the member reaches age 100.

d.The growth rate needed to provide and maintain a selected level of income.

Answer 6

a.The growth rate needed to provide, and maintain, an income equal to that obtainable under an equivalent immediate annuity.

• Type A critical yield: this is the growth rate needed on the drawdown investment sufficient to provide, and maintain, an income equal to that obtainable under an equivalent immediate annuity
• Type B critical yield: this is the growth rate needed to provide and maintain a selected level of income

Chapter reference 8C2A

Question 7

Undrawn funds in drawdown can be paid to a dependant, a nominee or a successor. Who can nominate a successor?

a.A dependant, a nominee or a previous successor.

b.The member only.

c.The member, a dependant or a nominee.

d.The member or a nominee.

Answer 7

a.A dependant, a nominee or a previous successor.

Under HMRC rules these undrawn funds can be paid to
a dependant or nominee of the member, or a successor nominated by a dependant or
nominee of the member (or by another successor).

Chapter reference 8B4

Question 8

Under COBS 19.9, the FCA sets out the annuity comparison information a provider must show when the annuity it is offering:

a.provides a guarantee period and whether a longer guarantee period would be available with a rival provider.

b.includes a reduction in rate to cover any commission payable.

c.provides more or less income than the market leading pension annuity.

d.increases in line with inflation, and if so, which inflation rate will be used.

Answer 8

c.provides more or less income than the market leading pension annuity.

COBS 19.9
COBS 19.9 sets out the requirements for annuity comparison information. In particular these rules set out when a firm must provide a client with comparison information that shows whether the annuity it is offering will provide more or less income than the market leading
pension annuity

Chapter reference 8C1A

Question 9

Firms are required to give appropriate risk warnings to consumers accessing their pension funds. What is NOT an example of risk factors set out in COBS 19.7.12?

a.Investment scams.

b.Impact on means tested benefits.

c.The possibility that legislation may change in the future.

d.Whether the client has shopped around.

Answer 9

c.The possibility that legislation may change in the future.

The examples of risk factors that relate to pension decumulation, as stated in COBS 19.7.12 are:

• the client’s state of health;
• loss of any guarantees;
• whether the client has a partner or dependants;
• inflation;
• whether the client has shopped around;
• sustainability of income;
• tax implications;
• charges (if the client plans to invest their pension savings);
• impact on means tested benefits;
• debt; and
• investment scams

Chapter reference 8C1B

Question 10

Alan died recently aged 62. What option is NOT available to his wife Sarah when taking the death benefits from Alan’s uncrystallised personal pension?

a.Designate the funds to a dependant’s flexi-access drawdown contract.

b.Take the whole fund as a tax free lump sum.

c.Designate the funds to purchase a dependant’s scheme pension.

d.Take the whole fund as an UFPLS.

Answer 10

d.Take the whole fund as an UFPLS.

It is not possible for a beneficiary to receive death benefits in the form of an UFPLS.

This is because any uncrystallised benefits remaining when the member dies crystallise automatically upon their death

UFPLS must be taken from uncrystalised money.

As a result, death benefits can only be paid in the form of a lump sum or continuing income.

Chapter reference 8A2

Question 11

What type of annuity is the GAD rate based on?

Answer 11

The GAD rate is based on a single life, non-escalating, non-guaranteed annuity that is paid monthly in arrears. The GAD rate for an individual is based on age attained and, since 21 December 2012, the male rates have been used for both males and females.

Question 12

Richard’s capped drawdown pension fund was valued at £680,000 when he died in June 2024 aged 70. He nominated his son Adam, aged 30, to receive these funds.

Adam designates all the funds into a nominee’s flexi-access drawdown fund in August 2024 and in March 2025 withdraws £30,000 from the fund.

How will this payment be treated for tax?

Answer 12

The income withdrawal of £30,000 is tax free and the MPAA rules are not triggered.

Question 13

Outline the two additional requirements that a drawdown to drawdown transfer must satisfy to be considered a recognised transfer that a normal pension transfer does not have to meet?

Answer 13

All assets must be transferred (i.e. it is not possible to only transfer part of the drawdown fund) and the transfer must be into a new arrangement (i.e. one with no
other funds held in it).

Question 14

Explain what is meant by mortality gain and mortality drag.

Answer 14

Mortality gain: When individuals purchase annuities all the funds are invested together by the insurance company. Some of the annuitants will die earlier than
expected, meaning the provider will pay out less annuity income than they were expecting. These extra funds remain invested and the extra amount is known as
the mortality gain to the fund. The insurance company will use the mortality gain to slightly enhance the rate they offer to individuals who buy an annuity

Mortality drag: With drawdown there is no cross subsidy. The mortality drag is the extra return required from the pension fund investments to offset the loss of the cross subsidy that exists within an annuity

Question 15

Heather, aged 72, wishes to take her remaining defined contribution funds valued at £300,000 as an uncrystallised funds pension lump sum (UFPLS). She has no transitional protection and had used 80% of her lifetime allowance as of 5 April 2024.

Calculate the amount of the UFPLS payment that can be made tax free

Answer 15

The maximum permitted tax-free element within an UFPLS payment is the lower of 25% of the UFPLS payment, or the member’s remaining LSA or LSDBA. In this
instance:

• 25% of the UFPLS payment is £300,000 × 25% = £75,000.
• Heather’s available LSA is £268,275 – (£1,073,100 × 80% × 25%) = £53,655.
• Her available LSDBA is £1,073,100 – (£1,073,100 × 80%) = £214,620.

The lowest of these figures is Heather’s remaining LSA and so the tax-free element of the UFPLS will be £53,655 with the balance of £246,345 taxed as Heather’s
pension income via PAYE

Question 16

William began drawing an annual income from his pension in August 2014. When he died, aged 69 in May 2024 he was receiving an income from a phased capped drawdown plan, with the last payment before his death being received in August 2023.

Explain what death benefits may be payable to his wife, Anne, aged 64, and their tax treatment.

Answer 16

The death benefits option for Anne are as follows:

• the uncrystallised fund can be returned as a tax-free lump sum, subject to a check against William’s LSDBA, as he died before the age of 75;
• the uncrystallised fund must be designated within the two-year window – otherwise this lump sum will be taxed as Anne’s pension income via PAYE;
• Anne can also take the capped drawdown pension fund as a tax-free lump sum as William died before the age of 75, with no test against William’s LSDBA as the funds were crystallised prior to 6 April 2024;
• she can use both the crystallised and uncrystallised funds to provide an income if she wishes and in both cases her choice is a dependant’s annuity or a
  dependant’s flexi-access drawdown fund;
• the income will paid tax free as William died before the age of 75 as long as the uncrystallised funds are designated to provide this income within the two-year
  window;
• if the uncrystallised funds are designated to income outside of the two-year window then the income will be taxed as her pension income via PAYE; and
• there is no IHT liability.

Question 17

Henrietta, who died in capped drawdown in June 2024 aged 72, had nominated her funds to her husband Charles.

Which one of the following options is not available to him?

a. Take the remaining fund as a tax-free lump sum.
b. Designate the funds to a dependant’s capped drawdown plan.
c. Purchase a dependant’s flexible annuity.
d. Designate the funds to a dependant’s flexi-access drawdown fund

Answer 17

The answer is b.

It is not possible to set up a new capped drawdown plan since 6 April 2015. All the other options are possible. A lump sum will be tax free as Henrietta died before the age of 75, it is possible to set up a dependant’s flexible annuity and he has the option to designate the funds to a dependant’s flexi-access drawdown fund

Question 18

Edwards has been told he cannot take an uncrystallised funds pension lump sum payment from his pension fund.

Which one of the following could be a reason for him being unable to access his pension funds in this manner?

a. Edward holds primary protection that includes lump sum protection of £380,000 as at 5 April 2006.
b. Edward is 76 years old.
c. Edward has previously taken an UFPLS from the pension fund in question.
d. Edward’s remaining lump sum allowance is £0.

Answer 18

The correct answer is (a),

as Edward’s primary protection included lump sum protection of more than £375,000 as at 5 April 2006.

If Edwards has “enhanced protection” or “primary protection” on a previous pension, which means he has a significant amount of tax-free cash already protected, he might not be able to access a UFPLS from his current pension.

The remaining options are not correct because there is no age restriction on an UFPLS, no requirement to have allowances available to receive an UFPLS and there is no limit on how many UFPLS can be taken from any one pension fund

Question 19

Daniel, who is 58, has a personal pension fund valued at £280,000. He would like to take a gross withdrawal of £20,000 for 2024/25. He is considering various ways
of achieving this payment.

Which one of the options shown below would not require him to designate funds to flexi-access drawdown?

a. Crystallising £80,000 and taking a tax-free lump sum of £20,000 only.
b. Crystallising £20,000 and taking £5,000 as a tax-free lump sum and the balance of £15,000 as income.
c. Crystallising £40,000 and taking £10,000 as a tax-free lump sum and £10,000 of the balance as income.
d. Crystallising £60,000 and taking £15,000 as tax-free lump sum and £5,000 of the balance as income

Answer 19

Answer is b:

If Daniel crystallises £20,000 and takes £5,000 as a tax-free lump
sum and the balance of £15,000 as income then the whole amount crystallised will have been paid to him and therefore could be made as an UFPLS. In all other cases some of the funds remain undrawn and so must be placed into a flexi-access drawdown fund

Question 20

Multi-choice

Which of the following payments will not trigger the money purchase annual allowance?

You should select all the correct answers.

a. An UFPLS of £20,000.
b. Three small pots payments totalling £14,000.
c. A PCLS plus a lifetime annuity that will pay a level income for life.
d. A PCLS plus a scheme pension from a defined benefit scheme

Answer 20

b. Three small pots payments totalling £14,000.
c. A PCLS plus a lifetime annuity that will pay a level income for life.
d. A PCLS plus a scheme pension from a defined benefit scheme

Question 21

Which one of the following is not a risk warning that must be included in a suitability report, as set out in COBS 9.4.10?

a. Levels of income may be at a worse level in the future.
b. Capital value of the fund may be eroded.
c. There may be tax implications.
d. Investment returns may be less that those shown in the illustrations.

Answer 21

a. Levels of income may be at a worse level in the future

Question 22

Sarah, who is 63, retired in March 2015. The only income she has in 2024/25 is from her ISAs and she is not yet entitled to her State Pension. So far she has not crystallised any of her pension funds.

She has a personal pension fund valued at £320,000 and she needs a £10,000 lump-sum payment, net of tax, in 2024/25. Which of the following options will ensure that she pays no income tax in 2024/25, and also leave as much of her fund as possible uncrystallised so as to provide further PCLS in the future?

a. Crystallise £40,000 and take a PCLS of £10,000 and no income.
b. Crystallise £10,000 and take £2,500 as PCLS and £7,500 as income.
c. Crystallise £12,000 and take £3,000 as PCLS and £7,000 as income.
d. Crystallise £10,000 and take it all as a PCLS.

Answer 22

The correct answer is b.

Sarah has her full LSA available and so can take 25% of the amount crystallised as PCLS and designate the remaining funds to flexi-access drawdown. Alternatively, she can take an UFPLS for £10,000, of which 25% will be tax free. The remaining £7,500 (whether she opts for flexi-access drawdown or taking an UFPLS) will also be tax free as she has no income subject to tax in the current tax year (as her ISA income is tax free) and therefore the £7,500 will fall within her personal allowance.

Option a also gives Sarah a payment of £10,000 as the whole payment will be tax free. Because the whole payment is PCLS, it will reduce the amount of PCLS available to her in the future (the balance of £30,000 would have to be placed into a flexi-access drawdown plan, although Sarah would not need to draw any funds from the plan if she did not wish to).

Option c will mean Sarah is crystallising more than she needs to and so does not meet her objective of leaving as much as possible uncrystallised (although the PCLS plus the payment from the flexi-access drawdown plan would all be tax free as Sarah would still have her whole personal allowance available).

Option d is not possible as this would mean Sarah is taking 100% of the amount crystallised as PCLS.

Question 23

Which of the following correctly show the HMRC rules that apply to a short-term annuity contract purchased by a scheme member?
You should select all correct answers.

a. The guarantee period cannot exceed ten years.
b. It is possible to include an annuity protection lump sum.
c. It must be paid from an insurance company.
d. It must be paid at least once a year.
e. It must be purchased using funds held in a drawdown pension.

Answer 23

a. No. The maximum guarantee period is five years.
b. No. Annuity protection cannot be included.
c. Yes.
d. No. A short-term annuity can (theoretically) be set up on a flexible basis, meaning income can (subject to contract terms and conditions) stop completely.
e. Yes

Question 24

In which of the following circumstance would a scheme administrator have a 60 day window in which to calculate the basis amount for a capped drawdown arrangement?

a. Additional funds are designated to a capped drawdown arrangement.
b. A member uses part of their capped drawdown arrangement to purchase a lifetime annuity.
c. A member’s request to end the reference period early is accepted.
d. A capped drawdown pension has a debit applied to it under a pension sharing order.

Answer 24

The answer is c.

Where a member’s request to end a reference period early is accepted, the scheme administrator can nominate a date within the 60 day window to carry out the calculation of the new basis amount. In the case of a, b and d the review must be carried out on the same day the funds are added to (in the case of a) or leave (in the case of b and d) the drawdown arrangement.

Question 25

When can a member take an Uncrystallised Funds Pension Lump Sum (UFPLS)?

Answer 25

• Member must have reached normal pension age, protected age or meet ill-health requirements
• Must have an amount of LSA and LSDBA that is greater than or equal to the tax-free amount of the UFPLS
• Must be paid from uncrystallised rights in a DC scheme

Question 26

When can’t a member take a UFPLS?

Answer 26

• Not from crystallised funds or
• From rights arising from a pension credit from a pension sharing order where pension is already in payment
• Nor from uncrystallised benefits where member has primary protection/ enhanced protection where lump sum protection is more than £375,000/scheme specific tax-free cash protection of more than 25% or an LTA enhancement factor/member’s lump sum allowance is less than 25% of UFPLS

Question 27

What happens if a member in capped drawdown takes an income that is more than the maximum permitted?

Answer 27

If a member takes more than 150% of the basis amount it will automatically become flexi-access and trigger the MPAA

Question 28

What are the HMRC requirements for an annuity to be considered ‘short-term’?

Answer 28

• Must be bought using drawdown funds
• Must be paid by an insurance company
• Must be for a term of no more than 5 years

Question 29

Name three risks of drawdown

Answer 29

• Mortality risk
• Investment risk
• Charges
• Annuity rates
• Depletion of funds

Question 30

State four ways of ‘phasing’ retirement.

Answer 30

Four of:

• Phasing UFPLS
• Phased flexi-access drawdown
• Phased capped drawdown (for those in capped drawdown on 6 April 2015)
• Phased annuity purchase
• Phasing PCLS

Question 31

What is a benefit of using capped drawdown to phase retirement rather than flexi-access drawdown?

Answer 31

As long as stay within 150% of GAD the MPAA is not triggered

Question 32

Name two main considerations when deciding whether to use phased drawdown rather than crystallising the whole fund into drawdown

Answer 32

• Whether MPAA is an issue
• Income tax considerations

Question 33

List three other considerations when deciding whether to use phased drawdown

Answer 33

• Size of funds/are they enough to support gradual crystallisation?
• Will plan offer flexibility/increases and decreases?
• Charges
• ATR
• Health
• Tax
• Family status
• Need for capital/income

Question 34

Name two disadvantages of using phased drawdown

Answer 34

• None of the options allow a large capital payment when benefits are taken
• Income and funds are not secure
• Funds are subject to mortality drag
• Options are complicated and need regular reviews

Question 35

Sally was in capped drawdown on 5 April 2015. She took the maximum PCLS from a fund that was worth £385,000. Sally’s government actuarial department (GAD) rate is £53 per £1,000, what is the maximum income Sally is entitled to?
A. £15,304
B. £18,365
C. £22,956
D. £30,608

Answer 35

C. £22,956

Sally has taken the maximum PCLS (25% of her fund); therefore, her remaining fund invested into pension drawdown is £385,000 x 75% = £288,750. If Sally’s GAD rate is £53 per £1,000, applied to her fund this equates to £288,750/£1,000 x £53 = £15,303.75. The maximum income she can take in capped drawdown is 150% of GAD = £15,303.75 x 150% = £22,956 (rounded up).

Chapter reference 8B1A