Am I entitled to a lump sum on retirement?
1995 section or you opted to move to the 2008 section
You will automatically be entitled to a standard lump sum of three times your pension.
The lump sum will be less than three times the pension for:
- married men with service prior to 25 March 1972
- women who opted for a bigger widower’s pension
- individuals who opted for increased dependants benefits in the 1995 section, unless an unreduced lump sum has been purchased.
2008 and 2015 sections
You may be able to choose whether to access a lump sum by giving up some of your annual pension at a rate of £1 of pension for £12 of lump sum.
When your lump sum will be paid
- Your lump sum is usually paid to you the day after your retirement, providing you have completed the application in good time.
- If you are retiring from the NHS pension scheme (England and Wales) the payment of your lump sum will be made within 30 days of your retirement date.
- If the payment is made outside of 30 days interest may be payable.
Commutation of pension benefits
When you come to make your application for retirement, you will decide if you want to commute your pension.
Commutation is the option to access a retirement lump sum by forgoing £1 of pension for £12 of lump sum.
While it can be tempting to take a lump sum, you will need to weigh up the benefits and consider the value for money. For example, for every £12,000 of lump sum you take, you give up £1,000.
Maximum lump sum
You can access a maximum lump sum which is the HMRC maximum of 25% of your pension fund value or 25% of the standard lifetime allowance at the time of retirement (if lower).
If your benefits crystallise on or after 6 April 2016, the maximum tax-free lump sum is £250,000.
This maximum amount can be estimated by multiplying your pension by 5.36. The automatic lump sum is included when calculating the 25% total available to you.
For example, if you have a pension of £25,200 and a standard lump sum of £75,600, the lump sum could be maximised as follows:
£25,200 x 5.36 (commutation factor for 1995 section) = £135,072 approximate maximum lump sum
£135,072 - £75,600 (basic lump sum) = £59,472 maximum additional lump sum
£59,472/12 = £4,956 reduction in annual pension required to fund this.
This maximum amount can be estimated by multiplying your pension by 4.28. Any mandatory lump sum is also included when calculating the 25% total available to you.
For example, if you have a pension of £33,660 the lump sum could be maximised as follows:
£33,660 x 4.28 (commutation factor for 2008 section) = £144,060 approximate maximum lump sum (rounded down to the nearest number divisible by 12)
£144,060/12 = £12,005 reduction in annual pension required to fund this.
If the maximum lump sum of £144,060 was taken the annual pension would be reduced to £21,655 (£33,660 less £12,005). It is not necessary to take the maximum lump sum; it is possible to access any lump sum up to the maximum of 25% of the total pension value, by giving up a part of the annual pension as detailed above.
Is my lump sum always tax-free?
You are entitled to a tax-free lump sum equivalent to the lesser of:
- 25% of your pension fund value, or
- 25% of the lifetime allowance (whichever is the lesser).
Lump sum benefits up to this level are tax-free.
If you have a lump sum protection certificate (certified by HMRC) you will be able to access a greater tax-free lump sum than that specified above.
If you have fixed protection you are entitled to access 25% of your protected (fixed) lifetime allowance.
If you have enhanced or primary protection you are entitled to access 25% of £1.5m as your lump sum before any tax charges will apply.
Any lump sum which exceeds this limit would be subject to 55% lifetime allowance charge.
Is the lump sum likely to ever be taxed in future?
While we can’t predict what any Governments may announce in future, it is in the Government’s interest for people to take their pensions in a lump sum.
If the Government were to decide to tax the lump sum, presumably fewer people would choose to access benefits in this way. With fewer people opting for lump sums, the scheme would retain a greater liability for paying ongoing pension benefits and would be more ‘expensive’ as a result of this.
Making another commutation choice
The option to exchange part of your pension for lump sum must be made at the time of claiming your pension. For that reason you will not have a second opportunity to make a decision about commutation even if a substitute award be made.
The approach taken by the NHS pensions agencies is:
- if when claiming the pension you opted to take the maximum lump sum, the pensions agencies will apply that decision to all substitute awards
- if when claiming the pension you opted to commute a fixed amount (or nothing at all), there will be no further commutation on the additional pension resulting from the substitute award.
If you change your mind, you will need to contact the relevant pensions agency quickly and certainly before they start processing your retirement benefits.