Defined benefit lump sum death benefits (DBLSDB)
This is a lump sum which is paid from a defined benefit arrangement. There is no limit on the level of defined benefits lump sum death benefit that can be paid from a defined benefits scheme. DBLSDB is usually only payable on death before retirement. The amount paid may be:
- a set amount promised by the scheme,
- linked to the member's salary at the time of death or
- based on some other measure, but
- cannot be based on the amount of funds available to provide the benefit (if that was the case then this is not a defined benefit lump sum death benefit).
Since 6 April 2016, there are no time limits on the payment of a DBLSDB. However, if the member dies under 75 and it is paid outside the two-year period, there are taxation implications which are discussed below.
A lump sum can’t be a DBLSDB if it meets the conditions for a:
- pension protection lump sum death benefit
- trivial commutation lump sum death benefit
- winding-up lump sum death benefit.
Paragraph 13 Schedule 29 Finance Act 2004
The lump sum will be specified by the scheme rules. This can be provided directly from the scheme (where the scheme self-insured the cover) or may be insured through an assurance arrangement. HMRC don't limit the sum that can be paid on death. Generally, the scheme will set an amount of lump sum payable if a member dies before taking retirement benefit (usually expressed as a multiple of salary, for example, four times salary).
A term-assurance policy that pays out a benefit on the death of the member by reference to the individual's salary is providing a defined benefit. However a policy that pays out a set monetary amount is providing a cash balance benefit and as such cannot be classed as a defined benefit lump sum death benefit and is likely to be paid as an uncrystallised funds lump sum death benefit.
A lump sum payable under a five-year guarantee can be treated as a DBLSDB as long as it meets the conditions of being paid from a DB scheme and being based on a defined calculation rather than based on the amount of funds available. The member must also have not asked for the guarantee to be paid as a pension protection lump sum death benefit.
It’s not uncommon for schemes to use this approach as an alternative to commuting five-year guarantee periods, which ceased to be allowable from 6 April 2006 (A-Day).
HMRC give the following examples of lump sums payable on death that would qualify as a defined benefits lump sum death benefit:
- a multiple of earnings, such as 2 x final salary (eg group life assurance payable on death in service), or
- a multiple of service eg £500 for each year of service with the employer, or
- a multiple of another factor eg 3 x prospective pension or 10% of the employer's profits in the accounting period before the member's death, or
- a lump sum of a fixed amount of benefit eg £100,000 even if provided by a life cover policy NB read note below.
However, a fixed amount of £100,000 paid out on death but not expressed in benefit terms and might be paid as either a pension or a lump sum (ie where the form of benefit is to be decided on or after death), is not a defined benefit LSDB but a cash balance benefit.