Lifetime Allowance Alert

July 2018
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The Lifetime Allowance for Pensions Savings tax was introduced in April 2006. It sets an allowance for the amount of private pension savings each person can have with the benefit of tax relief. The State pension, dependants’ pensions and any overseas pensions do not count towards this allowance.

Most people are not affected by this and if you can answer “yes” to ANY of the following questions you needn't read any further, as you are unlikely to have pension savings assessable against the lifetime allowance.

  • My only pension is the State pension and / or an overseas pension scheme / and / or dependants pension inherited from someone else.
  • All my private pensions started to be paid before 6 April 2006. I do not have any remaining private pensions which started after then, nor funds in a drawdown plan.
  • I was born before 5 April 1943.
  • I do not have any pension funds not yet accessed, nor funds in drawdown, my pensions in payment are less than £50,000 per annum before tax.

What follows is a simplified guide to this tax. It does not constitute personalised advice and should not be relied on as a substitute for advice. If you think you may be affected you should seek personalised advice.

What Is The Lifetime Allowance?

The Lifetime Allowance relates to the total of all UK private pensions an individual may have, including employer's schemes, which benefit from tax relief. Once the allowance is exceeded a special one off tax charge, called pensions savings tax, is levied on any excess.

The current allowance is £1,030,000 million for 2018 /19 and is inflation linked, increasing each April based on the previous September’s inflation rate.

How to calculate the value of pensions for the Lifetime Allowance

Overseas pensions, State pensions and any pensions inherited from a deceased person do not count towards the allowance.

Type of Pension

Lifetime Allowance Calculation

Final salary pension or lifetime annuity started before 5.4.06

25x annual gross pension

Final salary pension or lifetime annuity started after 6.4.06

20x annual gross pension plus lump sum paid

Money purchase pension e.g. AVC, SIPP, personal pension

Value of fund

Annuity income in payment post 6.4.06

Purchase price

Capped drawdown

25x maximum income allowed, whether you are drawing it or not

Flexible drawdown

Fund value when you started it plus any growth since then

Each of these pensions represents a % of the lifetime allowance. When you start to draw a pension, the trustee or pension provider states what % of the Lifetime Allowance is used. Each new plan is added to the total. Once it gets to 100% you will have used all the allowance and may have an extra tax bill to pay on any excess.

When Does The Tax Arise?

The pension funds are assessed against the lifetime allowance when you reach an event which triggers a lifetime allowance test.

These trigger events are called benefit crystallisation events.

The main ones are:-

  • Starting to draw a UK pension or lump sum
  • Buying an annuity with a UK pension fund
  • Reaching age 75
  • Death before age 75
  • Transferring a U.K. Pension to an overseas scheme
  • Transferring a pension from capped to flexible drawdown

Cash or Income Option?

If, on reaching a trigger event, no allowance is left, the excess over the Lifetime Allowance available will suffer a one off tax charge. This is 55% of the excess if the excess is taken as a lump sum. There is no further tax to pay on this. So an excess of £10,000 means the pension owes HMRC £5,500 and pays out £4,500 as a one off payment.

The alternative is to take the excess as a regular income. In this case the one off tax charge is 25%. A taxpayer will also have to pay income tax on the income as and when drawn. So a £10,000 excess would result in £2,500 being paid to HMRC and £7,500 remaining invested or used to buy an annuity which would produce a taxable income.

Protection against Retrospective Impacts

Applications to HMRC for an allowance of up to £1.25 million (Individual Protection 16) are still open providing pension funds were in excess of £1 million as at 5 April 2016. This represents a potential tax saving of up to £121,000. It is possible to still pay into pensions after this date or receive employer contributions into them.

What if pension funds were below £1 million at 5 April 2016? So long as they have not paid into a pension or accepted employer funding of a pension since 5 April 2016 and do not do so in future, savers may apply for Fixed Protection 2016. This provides a fixed allowance of £1.25 million. Whether this would be beneficial depends upon how long it is expected before drawing pensions and how much they are expected them to grow, compared to the annual inflation linked increase in the lifetime allowance.

For example, if inflation is 2.5% pa it will take until 2026 for the lifetime allowance to exceed £1.25 million. Of course, it could increase to this level sooner or later on depending upon the actual rate of inflation.

If eligible for employer contributions, the benefit of opting out of the scheme to secure a higher lifetime allowance needs to be weighed against the loss of pension which would otherwise accrue. Even if a recovery charge is payable on an excess, it could still be better to stay in the employer’s scheme and pay the extra tax.

If faced with this dilemma, taking professional advice is always recommended.

Kay Ingram
Director of Public Policy, LEBC

Please remember, no news or research item is a recommendation or advice to buy. LEBC Group Ltd is not responsible for accuracy and may not share the author’s views. If you are unsure of the suitability of a product for your circumstances please contact an adviser. LEBC Group Ltd is not responsible for accuracy and may not share the author’s views.

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