Contracted In Money Purchase Schemes (CIMPS)

A money purchase occupational pension scheme is set up by an employer and is governed by a trust. The most common type of money purchase occupational scheme provided for employees is known as a contracted in money purchase scheme (CIMPS).

A money purchase scheme works on the same principle as personal and stakeholder pensions, as follows:

contributions are paid into a money purchase fund; and
the value of the fund is used to provide benefits for the member on retirement or on death.

Under a CIMPS, the employer will usually specify an amount of contribution which will be paid into the scheme on behalf of each employee.

The employee may also he expected to contribute as a condition of membership.

Prior to 6 April 2006, a CIMPS was subject to HMRC occupational scheme rules and, although a CIMPS is now subject to the same tax legislation as a personal or stakeholder pension, such schemes will continue to exist after 'A' Day. The differentiating factor will be that a CIMPS will be set up by an employer on behalf of the employees. The employer will set the scheme's eligibility requirements and the rules of the scheme will continue to specify the level of contributions which will be paid and various other factors, such as death benefits, the age to which the company will pay contributions, whether the member has to retire to take benefits etc.

Setting up the scheme and trustees

The scheme will be established under a trust; it will have trustees and a set of rules. It must also have a registered pension scheme administrator. The administrator will usually be the trustees of the scheme. The trustees must:

look after the scheme for the benefit of the members of the scheme;
administer the trust in accordance with trust law and the legislation and rules that apply to the scheme;
be appointed when a new scheme starts. The trustees could be directors of the company, the company secretary or the company accountant; and
if the scheme exceeds a certain size, there must also be one or more trustees which are nominated by the members of the scheme and these are called member nominated trustees.

The trustees have a number of responsibilities, for example, they must:

ensure that the scheme produces audited accounts;
ensure that appropriate advisers are appointed, e.g. auditors, an actuary, legal advisers etc.;
produce payment schedules, which show the contributions that have been paid into the scheme; and
produce a Statement of the Investment Principles (SIP) used by the scheme. The SIP sets out the principles governing how decisions about the scheme investments will be made. The trustees must make sure that the SIP is prepared and maintained and they must revise it from time to time, if necessary.

The trustees stand between the employer and the members of the scheme and hence the pension scheme is kept separate from the employer.

An occupational pension scheme is subject to the Pensions Act 1995. This legislation was put in place to protect the rights and benefits of members of occupational pension schemes. Some of the legislation of the Pensions Act 1995 has been amended by the Pensions Act 2004. The Pensions Act 1995 resulted in a number of additional requirements for occupational pension schemes, for example:

a written procedure, called the internal Dispute Resolution Procedure must be in place to deal with disputes between members and trustees;
trustees must retain full records for six years;
all members must be provided with certain information within a specified timescale, e.g. information about the scheme, notification of benefits to be paid on retirement, annual statements showing the size of the fund and contributions paid etc.;
a payment schedule must be produced showing that all contributions have been paid into the scheme as required;
a minimum of one third of the scheme's trustees must be member nominated,
this is subject to a minimum of one member nominated trustee if the scheme has less than 100 members and a minimum of two member nominated trustees if the scheme has more than 100 members; and
following the Pensions Act 2004 this requirement will be increased so that 50% of trustees will have to be member nominated. This change is likely to come into effect from 2008/09.

Prior to 6 April 2005 pensions in payment in respect of post-5 April 1997 service had to escalate in line with RPI to a maximum of 5% per annum. This is known as Limited Price Indexation (LPI). This requirement has been removed for pensions which commence on or after 6 April 2005, but any post-97 pensions that are already in payment will have to continue to escalate in line with LPI.

The Pensions Act 2004 has introduced further changes which will apply to trustees as follows:

In order to run their schemes properly, trustees are required to have 'sufficient knowledge and understanding of pensions and trust law' along with the principles of funding occupational schemes and the investment of scheme assets. The Code of Practice relating to trustees' knowledge and understanding has been issued by The Pensions Regulator and the legal requirements relating to this came into force on 6 April 2006.
Trustees are required to notify the Pensions Regulator of certain events, known as 'notifiable events'. The Notifiable Events Framework came into force in May 2005 and its aim is to provide an 'early-warning' system for the Pensions Regulator. A list of scheme-related events has been issued, and trustees will have to notify the regulator of:
any decision by the trustees to seek to compromise a debt owed to a scheme;
a significant reduction in scheme membership;
two or more changes in any of scheme actuary, scheme auditor or legal adviser in the last twelve months;
a decision by the trustees, or knowledge by trustees of a proposal or decision to merge the scheme with another scheme;
a redundancy scheme that provides for early retirement on more favourable terms than stated in the scheme rules without seeking advice from the scheme actuary or without additional funding, if such funding is advised by the scheme actuary;
admitting a member or members to the scheme on more favourable terms than stated in the scheme rules without seeking advice from the scheme actuary or without additional funding, if such funding is advised by the scheme actuary.

Normal minimum pension age

The concept of a 'normal retirement age' no longer exists. However, a scheme may still set the age to which employer contributions will be paid and this will still be the age at which members are expected to retire. This is known as the normal minimum retirement age.

Under the new rules it is no longer necessary for an individual to retire in order to take benefits from the scheme, but the scheme rules will have to be changed if this is to be the case. The earliest age from which benefits can be taken is 50 (increasing to 55 in 2010).

Eligibility

The rules of the scheme will define who is eligible to join the scheme and will outline when they may join.

If an employer has a CIMPS, it may wish to ensure that it does not need to offer access to a separate stakeholder scheme. The CIMPS must have specific eligibility requirements to ensure that a separate stakeholder scheme is not required:

new employees must be able to join within one year of joining the company; and
employees under the age of 18 and new employees joining within five years of Normal Retirement Age (NRA) can be excluded.

In some cases not all of the members of the scheme will be employees. For example, an employer could choose to offer membership of the scheme to self-employed contractors who are currently working for the company.

Contributions

Contributions to a CIMPS are subject to the simplified tax regime rules.

An employer's contribution is not compulsory, but it is likely that employers will contribute to the scheme. Usually the employer will state a level of contribution, e.g. 5% of pensionable salary, which they will pay into the scheme. The employer therefore knows the cost commitment of providing the scheme for the employees.

There will often also be a defined level of contribution which must be paid by the employee as a condition of membership. Member's contributions are unlimited, although any contributions in excess of the member's relevant UK earnings are not eligible for tax relief. If a member wishes to pay higher contributions, these may be paid into a separate personal or stakeholder pension. It may be possible for the member to pay increased contributions into the LIMPS itself, but this depends on the rules of the scheme.

Additional voluntary contributions

Prior to 6 April 2006, all occupational pension schemes had to offer an in-house Additional Voluntary Contribution (AVC) scheme to which employees could contribute if they wished. This is no longer compulsory and an occupational pension scheme may instead otter a group personal pension plan as their 'top up' scheme, or offer no arrangement at all.

Pensionable salary

The rules of the scheme will define a level of pensionable salary upon which contributions will be based. This is likely to be lower than the employee's total remuneration for the year.

Under the old post-89 regime contributions and benefits were limited to the earnings cap, which has now been abolished. However, employers may still wish to limit contributions to the scheme for post-89 members who were subject to the earnings cap under the pre-6 April 2006 rules. For this reason 1-IMRC has set a notional earnings cap of £112,800 for 2007/08, which can be used by occupational pension schemes to limit the definition of pensionable earnings.

For example, an employee's remuneration may consist of basic salary, some overtime, a bonus and a company car. However, the rules of the scheme may only include basic salary within the definition of pensionable salary. A CIMPS will continue to base contributions on its definition of pensionable salary after 5 April 2006. However, the total relevant UK earnings figure will be used when determining whether or not tax relief should be awarded in respect of a personal contribution.

Life cover

In a money purchase scheme the value of each member's fund would be available to provide benefits on death before retirement.

If an employee dies after a relatively short period of service the fund will be correspondingly low.

To ensure that all employees are entitled to a reasonable level of death benefits the employer may choose to contribute to a separate insured death in service scheme to provide a defined level of benefits for members.

The defined level of benefits may just provide a lump sum death benefit, e.g. two times pensionable salary. Alternatively, it may also allow for the provision old spouse's, civil partner's and/or dependants' pension.

The cost of providing any spouse's, civil partner's and/or dependants' pension will be expressed as a lump sum, e.g. the cost may be, say, ten times pensionable salary. This lump sum will be used to purchase a spouse's, civil partner's and/or dependants' annuity on the member's death before retirement.

To keep the costs relatively low the benefits from the insured death in service scheme may he offset against the accrued fund. That is, as each member's fund increases, their sum assured under the death in service scheme will automatically be reduced.

Permanent health insurance

The employer may choose to take out group Permanent Health Insurance (PHI) to provide the employee with an income it they are unable to work due to incapacity. For a member of a money purchase occupational scheme PHI is a valuable benefit because:

in the event of a claim the income paid is treated as earned income and is taxed under the usual PAYE system;
although pension contributions may continue even it an employee has no earnings for a time, the rules of the scheme may state that contributions to the scheme must cease after a certain period; and
if a group PHI arrangement is in place, the employee will continue to have pensionable earnings for the purposes of the pension scheme and so membership of the scheme can continue.

Tax relief on contributions

Employee contributions

Prior to 6 April 2006 employee contributions to a money purchase occupational pension scheme received tax relief via the net pay method as described in chapter 2.

This method of awarding tax relief on members' contributions may continue after 5 April 2006, but there is now a choice of methods of awarding tax relief on members' contributions. The scheme may continue with the net pay method or may change to the relief at source method, whereby contributions are paid net of basic rate tax in the same way as personal pensions.

If the net pay method is chosen it must apply to all employed members of the scheme. Any scheme members who are not employees, for example, self-employed contractors, will have their tax relief awarded via the relief at source method.

Employer contributions

Employer contributions continue to be paid gross and are deductible as a business expense for the employer. Note that the method of obtaining tax relief for the employer is the same whether they provide an occupational pension scheme or a group personal or stakeholder pension scheme.

Transfers

Incoming transfers

A CIMPS can receive transfers in from other pension arrangements. It can accept transfers in from any other scheme, but cannot accept any contracted out benefits (e.g. protected rights from an Appropriate Personal Pension (APP)).

Outgoing transfers

If an employee leaves employment they will no longer be able to contribute to the CIMPS. Once the employee has completed two years' service in the scheme (or less if the scheme rules permit) they will be able leave benefits within the CIMPS or transfer them to a new arrangement.

Where an employee leaves the scheme before completing two years' service they will not automatically be offered preserved benefits within the CIMPS (unless they had previously transferred benefits into the CIMPS). However, the scheme can choose to offer a preserved pension, even if the member's service is less than two years.

However, if the employee has completed three months' service they must be offered a transfer value. They may be given the alternative choice of a refund of employee's contributions, although this is not obligatory if a transfer value is being provided. If the employee's service is less than three months it is likely that the only option will be a return of member's contributions.

In some circumstances the CIMPS provider may allow the member's CIMPS benefits to be assigned to them individually.

The fund may be transferred to a new employer's scheme or to a personal or stakeholder pension. Theoretically the fund may be transferred to any other registered pension scheme, such as an existing Retirement Annuity Contract (RAC) or Free Standing AVC (FSAVC) scheme. However, whether this is possible will depend on the rules of the existing scheme.

CIMPS investments and tax treatment

Employer and employee contributions into a CIMPS will be invested in a fund or funds in a similar way as for a personal or stakeholder pension. The tax treatment of the investments will also be the same as for a personal or stakeholder pension, i.e. the fund will grow free of all taxes, except for the tax credits on UK dividends, which cannot be reclaimed.

Various investment choices may be offered by the scheme:

the investment choices may be with-profits or non-profit,
this would give the employee an element of guarantee, e.g. once the bonuses under a with-profits fund are added they cannot be taken away,
schemes that offer just with-profits or non-profit investments have become less common in recent years;
it is more common for a choice of unit-linked funds to be offered:
for example, equity funds, managed funds, overseas equity etc.;
the investment responsibility remains with the trustees and therefore the choice offered may be more restricted than under, say, a personal pension plan.

Some CIMPS offer a facility whereby a member's investments are automatically and gradually switched into more secure funds as retirement approaches. This is known as lifestyling.

If a CIMPS is very large the contributions may be directly invested, i.e. the funds are directly invested into, say, cash, equities or property etc. rather than into insured funds offered by a life office. If this is the case, each member:

will still have their own fund, which will be earmarked for them via the scheme's accounting system; and
may still be able to select their own investments in the fund, though the trustees retain overall responsibility for the investments.

The investments offered by the scheme will be in line with the scheme's SIP. The SIP may also affect the way in which the members' pension funds are invested.

The SIP requires the pension scheme trustees to declare:

the extent (if at all) to which social, environmental or ethical considerations are taken into account in the selection, retention and realisation of investments; and
the policy (if any) directing the exercise of rights (including voting rights) attaching to the investments.

Some money purchase schemes deal with these requirements by offering members an option that invests along socially responsible or ethical guidelines. Other schemes may choose to use a product provider that practises responsible share ownership through actively engaging with the companies in which they invest.

Taking benefits

Benefits for early leavers

As a CIMPS is a money purchase occupational pension scheme, the member cannot continue to contribute to the scheme, if they leave service. Instead, depending on the rules of the scheme they may be entitled to:

a refund of their (i.e. the employee's) contributions (where scheme service is less than two years); or
a preserved pension, whereby the member's fund is retained within the CIMPS, but no further contributions are added; and/or
a transfer value, whereby the benefits can be transferred to a new pension arrangement.

The rules relating to a potential refund of contributions are as follows:

the first £10,800 of any refund will be subject to tax at 20%, with any further refund above £10,800 subject to tax at 40%;
the employer's contribution will either be retained in the scheme for the benefit of other members or it may be refunded to the employer, less tax at 35%;
if the employee has transferred previous pension benefits into the CIMPS a preserved pension and/or a transfer value will be provided; and
if the rules of the scheme permit, a member may be entitled to a preserved pension and/or a transfer value, even if service is less than two years.

As already mentioned, a transfer value must now be offered to a member who has completed three months' service.

If the employee has been a member of the scheme for at least two years then a refund of contributions will not be permitted. Instead, the member will be offered a preserved pension or a transfer value.

Pension and tax-free cash at normal retirement age

The amount of pension that will be provided by a money purchase occupational pension scheme usually depends on two main factors:

the size of the fund when benefits are taken; and
annuity rates when benefits are taken.

The scheme may choose to provide a scheme pension. Under a scheme pension an income is paid directly out of the fund or the trustees will purchase an annuity for the member out of the scheme funds. A scheme pension can only be provided by a money purchase occupational pension scheme if the member is first given the option of a lifetime annuity.

If a lifetime annuity is selected the member can choose their own annuity provider.

A member may have the option to draw an income directly from the fund under the unsecured pension option. This will only be available to a member of a money purchase occupational pension scheme if it is permitted by the scheme rules.

Benefits are now unlimited, although a tax charge may apply if benefits exceed the lifetime allowance when they are crystallised.

Part of the fund can be used to provide a tax-free cash lump sum at retirement. The maximum tax-free cash is now usually 25% of the value of the fund. If the member was entitled to a higher level of tax-free cash under the pre-6 April 2006 rules, this level of tax-free cash may be protected within the scheme.

The tax-free cash is paid out of the fund first. The balance of the fund is then used to provide a pension (via a scheme pension, a lifetime annuity or via the unsecured pension option, as described above).

Pension and tax-free cash on early retirement

A money purchase occupational pension scheme will have a normal minimum pension age. This can be any age from 50 onwards (increasing to 55 from 2010). However, the rules of the scheme may set the normal minimum pension age at a higher age, e.g. 60. The normal minimum pension age will be the age to which the employer will contribute to the scheme and will usually be the age at which the employer expects the employees to retire.

Regardless of the normal minimum pension age, a member can take benefits from the age of 50 (increasing to 55 in 2010). Usually the employer's consent may be required before this can happen. The member does not have to retire to take benefits from the scheme, but again the rules of the scheme will determine whether this is possible.

The employer may pay a single contribution to enhance benefits on early retirement, e.g. where early retirement is taking place due to a redundancy exercise.

The actual pension and tax-free cash available to the member are likely to be considerably lower than those available at the scheme's normal minimum retirement age. This is because:

fewer contributions will have been paid in;
the fund will have had less time to benefit from investment growth; and
annuity rates will be lower because the member will be younger.

Early retirement is permitted before age 50 if the member is retiring as a result of ill-health. In these circumstances:

the employer may choose to pay a single contribution into the fund to provide a certain level of pension on ill-health early retirement;
the employee may be entitled to an impaired life annuity, which will enhance the level of pension payable from the fund,
an impaired life annuity provides a higher income than a conventional annuity because the member has a reduced life expectancy, and therefore it is assumed that the income will be paid for a shorter period; and
if the member is in serious ill-health such that their expectation of life is less than a year, the whole fund may be commuted for a cash lump sum,
the cash lump sum will be tax-free as long as the sum commuted is less than the lifetime allowance.

Death in service benefits

If a member of a CIMPS dies before retirement the value of their fund will be available to provide death in service benefits. These benefits will be paid under trust, free of all taxes.

There is no limit to the death in service benefits that can be provided by a registered pension scheme, but if a lump sum death benefit exceeds the lifetime allowance the excess will be subject to the lifetime allowance charge of 55%.

Part or all of the fund can be used to provide an income for the member's spouse, civil partner and/or dependants. There will be no lifetime allowance charge applied to spouse's, civil partner's and/or dependants' pensions, regardless of their value.

If the employer contributes to an insured death in service scheme then the defined benefits under this scheme will also be paid out following a member's death in service.

Under a CIMPS it is likely that most members' beneficiaries will be able to take a full return of fund as a lump sum, without incurring the lifetime allowance charge. However, the rules of the scheme may specify a maximum lump sum death benefit as a multiple of salary. The rules may continue on this basis or may be changed to specify a full return of fund.

Death after retirement: spouse's and/or dependants' benefits

Where a lifetime annuity is purchased when benefits are taken, the member can choose the level of spouse's/civil partner's pension/escalation etc. as HMRC limits no longer apply. The maximum guarantee period is ten years and the guaranteed benefits can only be paid as a continuing income for the balance of the guarantee period.

If the unsecured pension option is selected when benefits arc taken, the member's spouse, civil partner or dependants will have a number of choices following the member's death.

The closure and/or wind up of a CIMPS

An employer may decide at any time to close a CIMPS or to wind it up completely.

Closure of the scheme would mean that either:

existing members are able to continue within the scheme with contributions continuing to be paid, but no new members are able to join; or
all contributions to the scheme will cease, but the money purchase fund will continue in a paid up format.

A closed scheme will gradually contract in size and eventually, when the final member retires or dies, it will cease altogether.

Winding up the scheme would mean that the scheme would cease to exist and all of the assets of the scheme moved elsewhere. The choices available to the employer are:

the employer could secure section 32 buyout plans for each member; or
the employer could set up a group personal or stakeholder pension scheme and transfer members' benefits into the new arrangement.

However, the employees must be notified about the employer's intention to wind up the scheme. They must be given the option to transfer their benefits to their own personal arrangement if they wish.

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