Lifetime Allowance for Pension Savings

July 2020
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The Lifetime Allowance sets a limit on the amount of UK private pension savings each person can accumulate without suffering an extra one-off tax charge. 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 in excess of the lifetime allowance.

  • My only pension is the State pension, or an overseas pension scheme or a dependant’s 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 I contributed to after then, nor funds in a drawdown plan that started since 6 April 2006.
  • I am over age 75.  
  • I do not have any pension funds not yet accessed, nor funds in drawdown. 

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 allowance is £1,073,100 million for 2020/21 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 (unless they had any sort of UK tax relief on contributions), State pensions and any pensions inherited from someone else do not count towards the lifetime allowance.

Defined benefit pension or lifetime annuity started before 06/04/06 25 x annual gross pension
Defined benefit pension started after 05/04/06 20 x annual gross pension plus lump sum paid
Money purchase pension e.g. AVC, SIPP, personal pension from which a withdrawal has been made Value of fund
Annuity income in payment started after 05/04/06 Purchase price
Capped drawdown 25 x maximum income allowed, whether you are drawing it or not
Flexi access drawdown Fund value when fund put into drawdown. Plus, any lump sum and growth on fund.

Each pension uses up a % of the lifetime allowance. However, no tax is due when your funds exceed the lifetime allowance, unless this coincides with a trigger event. When a trigger event happens a % of the Lifetime Allowance is used and 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.

What Are the Trigger Events?

Called benefit crystallisation events, the main ones are: -

  • Starting to draw a pension or lump sum from a UK pension scheme or private pension.
  • Buying an annuity with a UK pension plan 
  • Reaching age 75 with pension pots or drawdown funds
  • Death before age 75 with pension pots or death-in-service lump sums
  • Transferring a U.K. Pension to an overseas scheme before age 75
  • Transferring a pension from capped to flexi-access drawdown and then taking a withdrawal

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 designated as a lump sum. There is no further tax to pay on this. So, an excess of £10,000 means the pension plan pays HMRC £5,500 and pays out £4,500 with no tax to pay on it. 

The alternative is to designate the excess as income with a one- off tax charge of 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 which could produce a taxable income either immediately or in the future. 

Post Age 75

Once someone is over age 75 and settled any Lifetime Allowance tax due at that point, no further lifetime allowance charges will usually apply to their pensions. This is an important consideration for those who have excess pension funds, not required for their own needs. Pensions left to others on death are not usually part of the deceased’s estate for inheritance tax and do not count towards the recipient’s lifetime allowance either. The invested funds roll up free of tax with only income tax payable as and when money is withdrawn. Pension funds left on the death of the recipient can also be passed on to their beneficiaries in the same way. 

Protection against Retrospective Impact

Applications to HMRC for an allowance of up to £1.25 million (Individual Protection 16) are still open providing the pensions LTA value was £1 million or more at 5 April 2016. It is possible to still pay into pensions after this date or receive employer contributions into them.

What if pension funds weren’t over £1 million at 5 April 2016? Providing 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.

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 tax is payable on an excess, it could still be better to stay in the employer’s scheme and pay the tax.
If faced with a tax liability, taking professional advice is sensible as personal circumstances will weigh heavily in determining the best course of action for the individual. 

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 any investment or product for your circumstances please contact an adviser. All investments can fall as well as rise in value so you could get back less than you invest. The Financial Conduct Authority does not regulate tax planning. Tax rates and allowances may change in future.

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