Lisa Webster: Divorce impact on lump sums raises question

The lifetime allowance may have been consigned to the annals of history but the various forms of protection are still relevant in the new world, especially when it comes to the amount of pension commencement lump sum (PCLS) that can be taken. When clients who hold protection get divorced, any pension sharing order applied to the pension can have an impact on the protection held, and therefore affect the PCLS that can be taken in the future. Sometimes the impact can be significant, so this needs to be taken into consideration when deciding on the best way to split the assets. A client who holds primary or individual protection must inform HMRC if they have a pension debit applied to their pension. The level of protection will be re-calculated and either reduced – in which case a new certificate is issued – or lost altogether. Take the example of Geoff who had £2 million in his pension at A-day and holds primary protection. This protection means he has a lump sum allowance (LSA) of £375,000. If a pension debit of £550,000 is applied to his pension, the protection would be re-calculated as if he only had £1.45 million at A-day. This means he wouldn’t have been eligible for protection, so the protection is lost, and his LSA falls from £375,000 to £268,275. If assets had been re-arranged and the pension debit was £499,999 or less, then he could have kept the primary protection and his higher LSA. The theory is similar for individual protection. However, there is an adjustment to the value of the pension debit depending on the period between the protection being put in place and the date of the pension debit. If the date of the pension debit is more than 12 months after the date of protection, then the amount of the pension debit is reduced by 5% for each full year before being deducted from the fund value at the date of protection For example, Jennifer has individual protection 2014 at £1.5 million (the maximum allowed). Her fund value was £1.6 million at 5 April 2014. She had a pension debit in May 2024 of £600,000, but the value of that debit would be reduced by 50%, as it is 10 full years since the date of protection (5 April 2014). Her fund value is calculated at £1.3 million so she can keep individual protection 2014 (as the minimum was £1.25 million), albeit at a lower level. For clients with enhanced or fixed protection, there is no direct impact on their protection when a pension debit is applied. However, having a pension debit will lead to a reduction in their fund value, so it is more likely that the available PCLS will be restricted by the rule that only 25% of the fund value can be taken, rather than the available LSA. Importantly under the new rules there is potential to rebuild pension funds, subject to the usual contribution rules, so these clients may be able to benefit, in time, from the higher LSA. Dealing with pensions on divorce is a complex area, and while lifetime allowance protection is not as an important factor as it once was, it is still relevant. There will be scenarios where a small difference in the level of pension debit can make a big difference to the amount of tax-free cash some clients can take. Lisa Webster is senior technical consultant at AJ Bell. She is an economics graduate with over 15 years’ experience in financial services. Prior to joining AJ Bell in May 2014 she spent nine years working in senior technical and consultancy roles at a major SIPP and SSAS provider. She is part of the AJ Bell Technical Team. Email: This email address is being protected from spambots. You need JavaScript enabled to view it. Twitter: @lisasippster

Lisa Webster: Divorce impact on lump sums raises question

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