Pension commencement lump sums (tax free cash)


This briefing sets out the rules around pension commencement lump sums, which is more commonly known as tax-free cash.  

Core considerations 

  • Tax free cash is generally limited to 25% of the benefits being crystalised. 
  • Some individuals may have higher (or lower) protected tax-free cash entitlements. 
  • From 6 April 2024 tax-free cash is also limited by the individual’s lump sum allowance (LSA) and lump sum and death benefit allowance (LSDBA).
  • Although the entitlement to tax free cash under a defined benefit scheme is broadly the same, the calculation is more complex and may be restricted by the scheme rules. 



When tax-free cash can be paid

Tax-free cash can be paid once the individual reaches the normal minimum retirement age (currently 55 but increasing to age 57 on 6 April 2028). It can also be paid earlier where a member meets the requirements for an ill-health pension or has an entitlement to a protected low retirement age. 

Tax-free cash is technically known as a pension commencement lump sum. This is because it can only be paid in connection with an individual’s entitlement to a “relevant pension” benefit (i.e. a scheme pension, lifetime annuity or drawdown pension) under the same registered pension scheme.   

Although funds have to be designated to drawdown for the associated tax-free cash to be paid, there is no requirement to take any drawdown income. Therefore, where an individual only requires tax-free cash they can achieve this in a defined contribution scheme via the drawdown option. 

Tax-free cash must be paid within a period beginning six months before, and ending 12 months after, a member becomes entitled to a relevant pension. If these conditions are not met then any tax-free cash paid becomes an unauthorised payment.

It is possible to defer tax-free cash beyond the member’s 75th birthday from unused funds when taking a relevant pension. Currently it is not possible to ignore any previous age 75 tests on any uncrystallised benefits tested against the LTA at age 75. HMRC is considering ways to change legislation but in the meantime, those aged over age 75 who haven’t taken their full tax-free cash entitlement can apply for a transitional tax-free amount certificate.

Tax free cash can only be paid provided the member has available Lump Sum Allowance (LSA) and Lump Sum and Death Benefit Allowance (LSDBA) at the time of payment. Remember taking tax benefits from other pensions from 6 April 2024 along with any benefits crystallised before 6 April 2024, will reduce the available allowances. 

How tax-free cash is calculated

The maximum allowable tax-free cash that can be taken from any pension is the lesser of: 

  • 25% of the value of their pension rights
  • the available LSA
  • the available LSDBA

We include details of the different LSA based on the different transitional protections further in the article. The LSDBA is only likely to be a factor when someone has taken serious ill-health lump sums.  

For defined contribution schemes this is generally straightforward.  

For example

Joel has already used up 80% of his LTA by receiving a scheme pension in 2022. He has no transitional protection in place. He also has £300,000 invested in his personal pension and would now like to access the tax-free cash. The tax-free cash is limited to the lesser of:

  • 25% of £300,000 = £75,000 and  the remaining LSA. 

  • The remaining LSA is £268,275 – (£1,073,100 x 0.8 x 0.25)  = £53,655

  • The remaining LSDBA is £1,073,100 –(£1,073,100 *0.8*0.25) = £858,480

Therefore, Joel's tax-free cash is limited to £53,655.


Tax-Free Cash under a Defined benefit scheme

A member of a defined benefit scheme will be provided with a scheme pension. The tax-free cash is calculated as 25% of the value of their benefits, although some scheme rules may be more restrictive. Generally, the pension benefits must be commuted or given up to provide the tax free cash. However, some schemes may provide tax free cash as a separate lump sum. 

  • Commuting for tax-free cash 

When commuting the pension for tax-free cash the following formula can be used to determine the maximum tax-free cash: 

Pension x commutation factor x 20 / ((commutation factor x 3) + 20) 

The calculation is also sometimes expressed as: 

Pension x Commutation factor / [1+(0.15 x Commutation factor)] 

Both formula result in the same outcome. In either case the tax-free cash must not exceed 25% of the scheme benefits. 

The residual pension is then calculated as: 

Pension – (max tax-free cash/ commutation factor) 


  • pension is the member’s pension benefit before commutation; 
  • commutation factor is that applicable under the scheme concerned. 
For example

A member of a final salary scheme has a pension benefit of £40,000 p.a before commutation. The scheme commutation factor is 12:1. Maximum PCLS is £40,000 x 12 x 20 / ((12 x 3) + 20) = £171,428 Residual pension is £25,714 (i.e. £40,000 – [£171,428/12]) To check that the PCLS is 25% of the value of the pension rights: ((£25,714 x 20) + £171,428)/4 = £171,428 (allowing for rounding)
  • Separate Lump Sum  

Some schemes, particularly older public sector schemes provide an automatic right to tax-free cash in addition to the pension. This is typically at a level of three times the initial annual pension or an accrual of 3/80ths of final salary for each year of service. In this case, taking the tax-free cash entitlement does not reduce the annual pension.


For example

A member has 20 years service with a final salary of £40,000. The scheme provides a pension of 1/80th of salary, plus a separate lump sum of 3/80ths of final salary. The benefits would be: Pension of 20/80 x £40,000 = £10,000, Lump sum of (20/80 x 3) x 40,000 = £30,000

However, these schemes may also allow members the option to increase their tax-free cash entitlement up to the 25% maximum by giving up some of their annual pension.

Tax-free cash and AVCs

The maximum tax-free cash that may be taken is calculated at a scheme, rather than arrangement, level. This will allow individuals more flexibility to amalgamate AVCs and other pension benefits within the same scheme to maximise their tax-free cash. It will also allow, for example, the whole of the tax-free cash to be paid from a separate but linked AVC scheme.  

Although the provisions of the simplified regime permit the above it is necessary to check that the rules of the main occupational scheme will allow the tax-free cash to be taken from the associated in house AVC scheme. Where they do it may prove attractive for a scheme member to take their PCLS, as far as possible, from their AVC benefits particularly if the commutation factor under their DB scheme is unattractive.  

Calculating the crystallised value is more complicated for schemes which include both defined benefit and defined contribution elements. The values will be different depending on whether the tax-free cash is provided by commutation of DB pension, from a money purchase pot, or from a mixture of both. 

Pension Commencement excess lump sum

For both DC and DB schemes, the maximum available tax-free is still limited to the available LSA or LSDBA. Any lump sum in excess of either allowance would be subject to income tax as a pension commencement excess lump sum. 

A pension commencement excess lump sum follows the rules and requirements for a pension commencement lump sum, i.e. a relevant pension needs to commence and up to 25% of that pension can be paid as a lump sum. The difference is that any amount in excess of the available LSA becomes subject to income tax. 

Transitional Protections

Where an individual has a lifetime allowance protection, the starting point for the individual’s LSA will be higher. Details of the lump sum allowance when protection applies can be found in our document lump sum allowance and lump sum and death benefit allowance.

Type of protection Lump Sum Allowance
Enhanced or primary protection with not protected tax free cash £375,000
Enhanced protection with protected tax free cash For each arrangement, the maximum PCLS available on 5 April 2023 based on the protected percentage
Primary protection with protected tax free cash 1.2 x the lump sum rights on the protection certificate
Fixed Protection 2012 £450,000
Fixed Protection 2014 £375,000
Individual Protection 2014 25% of the LTA on the Protection Certificate
(£312,250 - £375,000)
Fixed Protection 2016 £312,250
Individual Protection 2016 25% of the LTA on the Protection Certificate
(£268,275 - £312,250)

In order to work out the available LSA remaining, any previously used amounts must be deducted from the starting amount. This includes the non-taxable elements of any relevant lump sums paid after 5 April 2024 and any amount calculated using the standard transitional formulae or the amount stated on a transitional tax-free amount certificate.  

Scheme specific tax free cash

There are also two other types of protection – scheme specific tax-free cash and standalone lump sums. These are relevant to individuals who had an entitlement to a tax-free cash lump sum higher than 25% of the fund at 5 April 2006. 

Scheme specific tax-free cash applies where an occupational pension scheme could provide more than 25% tax-free cash based on the member’s salary and service with the employer linked to the scheme. The entitlement available at 5 April 2006 is protected and revalued until the benefits are taken.   

From 6 April 2024 the scheme specific tax-free rights are calculated using the following formula:

(tax-free cash at 5 April 2006 x 1.2) + 25% of [Current pension value - (value at 5 April 2006 x 0.7154)]

This simplified formula improves the tax-free rights for individuals with individual or fixed protection compared to previous tax years. 

Standalone lump sums are available where the member was entitled to take 100% of their pension as a tax-free lump sum at 5 April 2006. This standalone lump sum is paid instead of a pension commencement lump sum, and without the need for a relevant pension to commence. The maximum that can be paid tax free is limited to the maximum that could have been paid on 5 April 2023. Any excess above this amount is now taxable as income.     

Where tax free cash can be lower than 25%

There are some circumstances where a member will be entitled to less than 25% tax-free cash.  

  • Guaranteed minimum Pension (GMP) 

Plans with GMP may not be able to provide members entitlement to 25% tax free cash.  

It is not possible to pay any tax-free cash from any rights that must provide GMP. The GMP must be put into payment as an income. Where there are other scheme benefits, then the value of the GMP rights is added to the total rights available to determine the members tax-free cash entitlement, which can be taken from the non GMP rights. 

Where GMP has been bought out for example into a S32 bond, if the fund value is insufficient to provide the GMP rights then this would leave no benefits available to pay any tax-free cash. Or, if the fund is sufficient to cover the GMP, then there may only be a small excess available for a member to take tax free.

  • Disqualifying pension credit 

Where an individual receives a pension credit following divorce from crystallised funds, no tax-free cash can be paid from this as the original member will have already received the entitlement.