While there’s no actual limit on the total pension fund you can save for your retirement, there are some limits to be aware of so that you can make the most of your pension savings.
The first allowance that you may already know of is the Annual Allowance.
The Annual Allowance is currently £40,000
The Annual Allowance limits the amount that you can save into your pension each tax year (6 April to 5 April) while still being able to benefit from relief. In the 2022/23 tax year, this stands at £40,000 or 100% of your annual earnings, whichever is lower.
You can continue to pay into your pension once you hit this limit, but you would no longer be able to do so in a tax-efficient way. Any contributions over your Annual Allowance may incur a charge.
The “Annual Allowance charge” essentially claims back any tax relief you receive on contributions over this limit.
The way pension savings are measured against the Annual Allowance depends on the type of pension scheme you have.
How the Annual Allowance applies to defined contribution (DC) pensions
For DC pensions, the allowance is based on the total of:
- Your own contributions (plus any tax relief you receive)
- Any employer contributions
- Any contributions made on your behalf by someone else.
… and defined benefit (DB) pensions
For DB pensions, the Annual Allowance is based on the capital value of the increase in your pension benefits over the tax year. This value can be surprisingly large, which can make things more complicated, so it’s important that you check.
If you are a member of a DB pension scheme and want to ensure that your pension savings are working as tax-efficiently as possible, get in touch. Our expert advisers are on hand to advise on the most efficient ways to build your pension pot.
The Annual Allowance applies across all your pension savings
The Annual Allowance is calculated across all your pension savings and not to individual schemes. If you have multiple pension plans that you contribute to, this can make it difficult to keep track of.
Should you exceed the £40,000 allowance, you'll incur a tax charge to claw back any tax relief that was given at source.
If you exceed the Annual Allowance, it may be possible to reduce or eliminate the excess by using “carry forward”.
Carry forward allows you to use any unused Annual Allowance from the last three years, as long as you haven't triggered the Money Purchase Annual Allowance (MPAA).
The MPAA only applies to DC schemes
Should you start drawing money from a DC pension pot, this could reduce the amount you can contribute to your pension while still benefiting from tax relief.
If you trigger the MPAA, the amount you contribute on which you can get tax relief reduces to £4,000 a year.
The MPAA only applies to contributions to DC pensions and not DB pension schemes.
Read more: A helpful guide to taking a tax-free cash lump sum from your pension
The other allowance that you should bear in mind when planning your retirement savings is the Lifetime Allowance (LTA).
The LTA is the maximum amount you can hold in pension savings tax-efficiently
Introduced by the Labour government in 2006/07, the LTA originally stood at £1.8 million. Over the past decade successive governments have reduced it so it now stands at £1,073,100.
While the LTA is supposed to increase in line with the Consumer Price Index (CPI), in the 2021/22 tax year the threshold was frozen until 2026. This was part of the former chancellor's plans to help balance the public purse following the heavy cost of Covid recovery measures.
The LTA sets the maximum amount of money you can hold across all your pension schemes without triggering an additional tax charge.
LTA tax charges
There is no immediate charge when your overall pension fund grows above the LTA.
Any charge is incurred when you begin to take pension income over the allowance, and is only calculated at specific times, which are known as “benefit crystallisation events” (BCE).
Typically, this it is triggered when you take any income or lump sums from your pension fund, when you reach age 75, and upon death.
If the value of your total pensions exceeds the LTA when the calculation is made, you will pay a tax charge of:
- 25% of any amount over the LTA taken as regular income
- 55% of any amount over the LTA you take as a lump sum.
These hefty tax charges could severely reduce the amount you have to live off in retirement, making it important to keep an eye on your overall pension wealth.
Protect your pension wealth
It is possible to protect your pension wealth with Lifetime Allowance protection, and so avoid the tax charges outlined above.
If you are already over the LTA limit, or close to becoming so, it’s especially worth considering because investment growth could easily take you over the limit.
There are several different types of protection you can apply for. What is suitable for you will depend on your circumstances.
Think carefully before applying for protection as it could prevent you from making any further contributions into your pensions. This will have a knock-on effect on your financial planning – particularly how you fund your income in retirement.
Protection rules are complicated, so it’s wise to speak to a financial adviser before taking any action.
How we can help
Both the Annual Allowance and the Lifetime Allowance should be considered when planning your retirement savings.
Effective pension planning is complex, but we can help you plan for your retirement in the most tax-efficient way possible.
If you’d like to find out more or would like to discuss any aspect of your retirement plans, please email clientenquiries@lebc-group.com or call us on 0800 055 6585.
Please note
This article is for information only and does not constitute financial advice or a recommendation to any investment or retirement strategy you should seek professional financial advice before embarking on any course of action. Please do not act based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.
A pension is a long-term investment not normally accessible until 55 (57 from April 2028). The value of your investments (and any income from them) can go down as well as up, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits.
The tax implications of pension withdrawals will be based on your individual circumstances. Levels, bases of and reliefs from taxation may change in subsequent Finance Acts.