What is the pension lifetime allowance?
The lifetime allowance is the total amount you can take from all your pension plans without facing a tax charge. The standard lifetime allowance is £1,030,000, but some people have a higher allowance.
The standard lifetime allowance is inflation linked, so it's likely to increase each year.
How does the pension lifetime allowance work?
You pay a tax charge of:
- 55% of any amount you take from your pension savings as a lump sum that is over the lifetime allowance
- 25% of any amount you take from your pension savings as pension income that is over the lifetime allowance
There’s no immediate tax charge once your pension fund grows beyond your lifetime allowance. It's only when you choose to take your pension benefits over your lifetime allowance that you pay a tax charge. And the charge only applies to the benefits taken over your allowance.
Can you get a higher lifetime allowance?
Since the introduction of the lifetime allowance, there have been several forms of lifetime allowance protection available to help limit lifetime allowance tax charges. Currently, there are two forms of protection available:
- Fixed protection 2016 - If you, or your employer, have made no pension contributions since 5 April 2016, you can apply for fixed protection 2016. This will give you a lifetime allowance of £1,250,000. This protection would be lost if any future contributions are made.
- Individual protection 2016 - If your funds were over £1,000,000 at 5 April 2016, you could instead apply for individual protection 2016. This gives you a lifetime allowance of the value of your pension rights as at 5 April 2016, subject to a maximum of £1,250,000. There is no requirement to stop pension funding.
Find out if you’re going to reach the allowance
Your pension scheme should be able to provide projections as to what your benefits might be worth at retirement.
Careful monitoring may be needed as you approach retirement to work out whether you are likely to breach the allowance.
And remember, you will need projections for all your pension pots. If you have a number of pensions, monitoring can be made easier if you consolidate them into a single pot. Consolidating pensions will not be right for everyone, however. You need to consider all the facts and decide if it's right for you
If you are likely to breach your lifetime allowance you have two choices;
- Stop contributing and save for your retirement outside your pension - Stopping contributions might mean that lifetime allowance charges are limited or avoided completely. But you need to considerthe taxation of any investmentsyou decide to save in to instead. And for employees, it could mean giving up on valuable employer pension funding too.
- Carry on saving into your pension and pay the tax charge when you take benefits - You don’t have to stop saving once you hit the lifetime allowance. It simply means that there will be a tax charge designed to recoup the tax relief on the additional funds. But even after paying the tax charge, your pension might still be the best place to save for your retirement.
If you're unsure which option would best suit you, you should seek financial advice.
4 reasons why exceeding the lifetime allowance might not be as bad as you think
Remember that the lifetime allowance is an allowance and not a limit. For some, continuing to make contributions to your pension beyond the allowance could be the right option.
1. Employer contributions
Continuing to pay into your pension means you don't miss out on valuable employer pension contributions. Workplace pensions typically require the employee to contribute a certain amount, which the employer will then match. Your employer may not be willing to agree to provide you with some other form of remuneration should you stop funding. So staying in the scheme means you still get to keep some of the contributions your employer is paying on your behalf. And 45% of something is better than nothing at all.
2. Lifetime Allowance to be inflation proofed
As of April 2018, the standard lifetime allowance will be increased in line with inflation each year. This means your pension pot may not be over the LTA by as much as you think when you come to take benefits.
3. Control when you pay the charge
If you have a flexible pension, you can control how and when you take money from your pension.
You don't have to bring all your pension benefits into payment in one go and face an immediate tax charge. Phasing your tax free cash and income means you can delay the point at which the benefits you have taken breach the lifetime allowance.
4. Additional tax benefits of funding a pension
The lifetime allowance tax charge is designed to remove the benefit of the tax relief you have received on those excess contributions. It doesn’t remove the other tax benefits of saving into your pension. Your fund will continue to grow free of UK tax on income and gains — much like an ISA. Pension funds are also typically free of Inheritance tax on death.
The value of investments can go down as well as up. It’s possible they may be worth less than was invested.
Remember, tax rules and legislation can change and the value of tax benefits depends on your individual circumstances. This information is based on our understanding in April 2018.
Access to impartial guidance
We recommend you seek appropriate guidance or advice before you make any decisions. An adviser may charge a fee for this. You can also get free impartial guidance over the phone or face to face with Pensionwise. Go to pensionwise.gov.uk or call 0800 138 3944. Make sure you understand all your retirement options by reading the Money Advice Service guide – Your pension - it’s time to choose
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