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The UK’s High Court has ruled that pensions reciprocation plans, whereby members are able to access cash before they reach age 55 by borrowing against their pension, are illegal.

The judgement, delivered last Friday (16 December 2011), will mean people who have used the plans could potentially face a tax charge on their pension of up to 55% from HM Revenue & Customs, or, at the very least, be forced to repay loans they have taken against their pension.

Pensions reciprocation plans were designed to allow a person to access cash from their pension, prior to the age of 55, without breaking HMRC rules. In order to do this, the plans essentially require two parties to lend each other cash from their pension schemes – the cash is then repaid once the members are allowed to draw down their pension.

However, while the schemes did not technically break HMRC rules, as individuals were not accessing their own pension funds, the High Court has ruled these payments were in fact “unauthorised payments” under the Finance Act 2004 and were therefore “expressly prevented from being made under the terms of the Schemes’ Trust Deeds and Rules”.

The High Court also ruled the loans were not investments and were outside the scope of the powers of the trustees and that the loans represented a “fraud on the (trustees’) powers of investment by the original trustees”.

It is understood that there are six HMRC registered schemes which have used pensions reciprocation plans and which are affected by the ruling, with a total membership of 487 and funds of approximately £25m ($39m, €30m).

At the end of May this year, concerned about the plans, the UK’s Pensions Regulator appointed Dalriada Trustees as an independent trustee of the six pension schemes affected. Since that time Dalriada has been working to establish whether or not the payments were permissible, finally bring a case to court in which it took the stance, as it expected, that the plans were indeed not permissible.

Last Friday’s ruling was anticipated by both Dalriada and the Pensions Regulator, with the latter saying it welcomed the decision. A spokesperson said: “The appointed independent trustee, Dalriada Trustees Ltd, will write to members informing them of the outcome.

“The parties have 21 days to apply to the Court of Appeal for permission to appeal should they wish to do so. If permission is not applied for or is not granted, the Court will be asked to provide further clarification on the practical consequences of the judgment.”

In its ruling, the High Court also acknowledged a decision is still yet to be made on £1m of charges taken by Ark Business Consulting, administers of two of the reciprocation plans, and two related entities which it “froze” in July this year. The Court said it will be at least one year before the decision is brought into proceedings.