Don’t Get Caught Out by the Lifetime Allowance Rule Change

The total tax paid by those exceeding their lifetime pension allowance amounted to £36 million in 2014/15, climbing steeply from £20 million in 2014/15 and equating to an 80% rise. The figure has climbed in recent years from £12 million in 2012/13 to £19 million in 2013/14 and up again to £20 million in the following year. The increased revenue has been generated through more stringent rules introduced last year regarding the lifetime allowance (LTA), the highest amount of money a person is allowed to save in their pension pot and benefit from tax relief at their marginal rate.

The LTA was reduced from £1.25 million to £1 million in the 2016/17 tax year, and is set to increase in line with consumer prices from 2018 onwards. This means that any pension savings above £1 million are now subject to an additional 55% tax charge. The reduced LTA is being seen by many as a ‘tax trap’ as taxpayers who have responsibly saved for their retirement, many of whom are not on especially high salaries, are now being caught out for doing so. For many, the tax charge has been entirely unexpected and could potentially have a major impact on their plans to retire.

The reduced LTA of £1 million has also been described by many in the pensions sector as relatively low thanks to the effect of cumulative interest. A 35-year-old taxpayer who has saved £300,000 towards their pension, for example, might find themselves reaching the current lifetime allowance when they turn 65. As a result, some people may consider stopping making pension contributions earlier than planned, many years before reaching retirement age.

A further problem highlighted is that the recent reduction is just the latest in a long line of alterations to the LTA, which has changed eight times since it was introduced as part of the Labour government’s pension simplification policy in 2006. Those working in the sector have suggested that, with the allowance having shifted so much already and further changes planned in the years to come, it has become very difficult for individuals to plan saving for their retirement over their working life. As such, the pensions industry may now need to focus more than ever, not on minimising the tax people are paying on their savings, but on maximising the benefit outcome they are achieving.

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