If I were a journalist my headline would be: “Pension Freedom has arrived!” With tax relief on contributions, tax efficient growth, the prospect of tax free cash at retirement and the ability to pass on funds to the next generation tax efficiently, putting money into a pension is now arguably the most tax-efficient means of saving money for the future. (See Andrew Pereira’s recent series on keeping your wealth within the family).
But beware! There are limits to any government’s generosity and with the latest change to the ‘lifetime allowance’, the 8th such adjustment in the last 10 years, careful planning is vital.
This note will help you to understand to what extent you may be affected and, more importantly, what steps you may need to take.
Important Pension Change
The Government is reducing the Lifetime Allowance for pension savings from £1.25 million to £1 million from April 2016. From 2018-19, the Lifetime Allowance will be increased by inflation (the Consumer Prices Index).
The information below has been compiled from a factsheet produced by the treasury following the 2015 budget. We share this with you for your information only. Please rest assured that your Quadrant Group adviser will review this change with you at your annual ‘Stewardship’ meeting.
1. What is the Lifetime allowance?
The Lifetime Allowance is the maximum amount of pension savings that you can make tax-free over your lifetime. This is currently £1.25 million. The Government announced that the Lifetime Allowance will reduce to £1 million from 6 April 2016 and thereafter it will increase by CPI but only from 2018-19 onwards.
When you come to take your pension savings, if you pension savings are higher than the Lifetime Allowance, then any pension savings above this level will be subject to an additional tax charge.
- 55% if the excess is taken as a lump sum than your marginal rate of income tax
- 25% if the excess is taken as income
You will still be able to withdraw a tax free lump sum, then all future income will be taxed at your marginal income tax rate.
2. How to tell if you are affected
You can check if you are likely to be affected by the Lifetime Allowance by asking your pension provider how much your unused pot is worth and how much of your Lifetime Allowance you’ve already used up. You can also get this information from your most recent pension statement.
If you’re in more than one pension scheme, you will need to add up your pension savings and how much you have across all your schemes. The total mount is the amount that will count towards the Lifetime Allowance if you took your pension today.
3. What counts towards your Lifetime Allowance
This will depend on the type of pension scheme your savings are in.
- If you are in a defined contribution scheme, it will be the value of your pension pot that will count towards your Lifetime Allowance.
- If you are in a defined benefit scheme, for example a final salary scheme, the calculation depends on how much your provider promises to give you per year when you retire. This amount, multiplied by 20, plus the amount of any lump sum is the amount that will count towards your Lifetime Allowance. Therefore if you receive a pension of £5,000 per year plus a lump sum of £15,000, this would have a value of 20 x £5,000 plus £15,000 = £115,000.
Your pension provider will be able to tell you what kind of scheme you are in if you do not know.
4. What to do if you think you may be affected
For those who think they may be affected by the reduction in the Lifetime Allowance, the Government has announced that transitional protection will be available. Where this protection applies, any pension savings you have on the 5 April 2016 up to the value of the current Lifetime Allowance of £1.25 million, will be protected from the Lifetime Allowance charge.
If you think you may be affected, you do not need to do anything now but you can prepare for April 2016 by checking the value of your existing savings.
Some individuals will already have transitional protection, either from when the Lifetime Allowance was first introduced, or from pervious reductions. If you hold one of these protections, then as long as you continue to hold this, you will not be affected by the reduction of the Lifetime Allowance to £1 million.
At Quadrant Group, our clients do not need to worry. We will integrate the new Lifetime Allowance into your ‘Wealth Cashflow Plan’, allowing us to identify if and/or when you will reach the limit. This will form part of our annual ‘Stewardship’ meeting, when we will review your pension affairs to ensure you are in a strong and tax-efficient position.
This article does not constitute financial advice. Individuals must not rely on this information to make a financial or investment decision. Before making any decision, we recommend you consult your financial planner to take into account your particular investment objectives, financial situation and individual needs. Past performance is not a guide to future performance. The value of an investment and the income from it may go down as well as up and investors may not get back the amount originally invested. This document may include forward-looking statements that are based upon our current opinions, expectations and projections.