In a money purchase scheme, often referred to as a defined contribution scheme, the scheme rules will describe how a member's benefits are to be calculated on leaving service, retirement or death. This element of the resource material will concentrate on the calculation and communication of death benefits for a money purchase scheme.
The case studies that you will be referred to in the examinations will include one (1) money purchase scheme:
TIP: From 6 April 2012 it was no longer possible for money purchase schemes to be contracted out.
There are three (3) distinct death calculations although candidates will be tested only on the first two (2) scenarios below in the examinations (since, once in payment, annuities will fall outside the scope of the OPQ Retirement & Death Benefits Plan):
1. What happens on death in service?
Death in service benefits are paid in respect of active members of a scheme at the date of death; whether the members die before or on / after normal pension date.
Lump sum death benefits on death in service
If a member dies in service before normal pension date, then a lump sum death benefit is generally payable in the form of life assurance. In addition, the member`s overall policy account (usually comprising member contributions (including AVCs) and employer contributions, plus any investment returns on these contributions) is typically used to provide further lump sum death benefits.
Although protected rights were abolished from 6 April 2012, with any accrued protected rights not already in payment at this date being treated the same as other pension benefits, protected rights pensions already in payment at this date continue to be paid and increased on the same basis that applied at the time they were purchased.
If a member was contracted out and died in service before 6 April 2012, the protected rights element of the fund had to be used to provide for a spouse`s / civil partner`s pension rather than to provide for an additional lump sum death benefit. In the absence of a spouse / civil partner, the protected rights element of the fund generally had to be paid to persons at the Trustees` Discretion as a lump sum death benefit, normally in accordance with the member`s nomination form or, alternatively, to the deceased member`s estate.
If death in service occurs on / after normal pension date, the life assurance benefit may no longer be payable depending on the rules of the scheme. However, the member`s policy account is generally still used to provide a lump sum death benefit as described above.
With money purchase schemes, life assurance benefits are generally insured. This means that the scheme must pay a premium to an insurance company who will then be responsible for paying out life assurance benefits when they fall due.
Pensions on death in service
From 6 April 2012, it was no longer possible for defined contribution schemes to be contracted out on a protected rights basis. If a member was contracted out and died in service before this date, the protected rights element of the fund had to be used to purchase a spouse`s / civil partner`s pension. However, in the absence of a spouse / civil partner, the protected rights could have been refunded as a lump sum death benefit as described in the previous section (‘Lump sum death benefits on death in service`).
Prior to 6 April 2006, the pension purchased by pre 6 April 1997 protected rights had to escalate in payment in line with the increase in the Retail Prices Index (RPI) to a maximum of 3% per annum. The pension purchased by post 5 April 1997 protected rights had to escalate by RPI to a maximum of 5% per annum.
From 6 April 2006, the compulsion to increase pensions in respect of protected rights was removed. Although protected rights were abolished from 6 April 2012, with any accrued protected rights not already in payment at this date being treated the same as other pension benefits, protected rights pensions already in payment at this date continue to be paid and increased on the same basis that applied at the time they were purchased.
It should be noted that in cases where the total lump sum death benefit exceeds the deceased member`s remaining Individual Lifetime Allowance, the balance of the fund can be used to purchase additional pension for the deceased member`s dependants to avoid a tax charge.
2. What happens on death in deferment?
Death in deferment benefits are paid in respect of preserved members (or opted-out members) of a scheme at the date of death.
Lump sum death benefits on death in deferment
Cover for life assurance ceases when a member leaves pensionable service. If a member is opted-out (leaves the scheme but not the company) then life cover may continue but sometimes at a lower rate.
There is no life assurance benefit for preserved members of the OPQ Retirement & Death Benefits Plan. As such, the lump sum death benefit for death in deferment is simply a refund of the value of the member`s overall fund, including any investment returns between the date of leaving and the date of death.
Please refer to the previous section (‘Lump sum death benefits on death in service`) to see under what circumstances protected rights can be refunded (provided death in deferment occurred before 6 April 2012).
Pensions on death in deferment
A member`s fund will continue to be invested after the member becomes preserved. Should the member die before retirement, the accumulated fund will generally be treated in the same way as that of an active member who dies in service (see previous section on ‘Pensions on death in service`).
3. What happens on death in retirement?
Death in retirement benefits are paid in respect of retired members of a scheme at the date of death.
Lump sum death benefits on death in retirement
On death in retirement, a lump sum death benefit will typically be paid provided the member dies within a specified period (usually if death occurs within 5 years from the date of the first pension payment, although the period can be longer). However, there will be no lump sum death benefit at all should this option not be made available to the member at the time the benefits are taken - or if this option is made available to the member at the time the benefits are taken but is not chosen by the member.
Should the member die outside the specified period, there is usually no lump sum death benefit payable.
Pensions on death in retirement
The payment of a death in retirement spouse's / civil partner's pension will be dependent upon whether the pension purchased by the member at retirement provided for this contingency.
If a contracted-out member was married and retired prior to 6 April 2012, there had to be a provision for a 50% spouse`s / civil partner`s pension for the protected rights (this requirement ceased for members retiring from 6 April 2012 when it was no longer possible to contract out on a protected rights basis). Where a protected rights pension exists, then on the member`s death the spouse`s / civil partner`s protected rights pension will come into payment and will increase each year in the same way as the member`s protected rights pension.
Members will normally decide when taking their benefits whether they want to use the value of their policy account to purchase a single life pension or a pension with an attaching spouse`s / civil partner`s pension to be paid in the event of their death. The member will typically opt for a 50% or a two-thirds spouse`s / civil partner`s pension, with the rate of escalation being at the same rate as that of the member.
Since 6 April 2015 and the introduction of the Pension Freedoms, there are additional options available to members of money purchase schemes other than the requirement to purchase a pension.
Please note that, for the OPQ Retirement & Death Benefits Plan, the pension is paid by an external provider rather than from the scheme. As such, learners will not be tested on death in retirements in the examinations.
4. How are communications with beneficiaries / trustees made?
Once the benefits have been calculated they need to be communicated to the beneficiaries and / or trustees of the scheme in the form of a letter. The examinations will expect learners to write letters to include all the facts and figures that are required to be communicated.
For death case studies from the OPQ Retirement & Death Benefits Plan all letters should include the following (where applicable):
1. Member's date of death
2. Lump sum death benefit (stating actual values for each component) payable to either persons at the Trustee's discretion or to the legal personal representatives
3. LTA percentage used (stating that it counts against the deceased member)
4. Requirements for payment:
a) Member’s death certificate
b) Marriage certificate
c) Spouse's birth certificate
d) Bank details
The list is not definitive and all letters must, for example, refer to any special circumstances and additional information contained in the case study.