Losing a chunk of your retirement income to tax when withdrawing it feels unfair. So, making sure that your money is as safe as possible is an important part of planning for retirement.
The Lifetime Allowance (LTA) is a taxation limit applied to the value of pensions. For the 2018/19 tax year, it stands at £1,030,000. The value of a pension is tested on several triggers, these include, but are not limited to:
- When all, or part of the pension is crystallised; for example, when a sum is taken out of the fund or if an Annuity is purchased
- At the age of 75
- Where the owner dies before the age of 75
If the value of the pension being drawn exceeds the £1.03 million threshold when tested, it will be subject to tax of:
- 55% on lump sums
- 25% on retirement income arrangements
This will reduce the amount you have available to spend and will be a big blow to your retirement plans.
The rise and fall of the Lifetime Allowance
During the 2008/09 tax year, the LTA stood at £1,650,000. This threshold rose over the next two years, hitting an all-time high of £1,800,000 in both the 2010/11 and 2011/12 tax years. This gradually reduced over five years to just £1 million in 2016/17. It has remained low since, with a small increase of £30,000 in April 2018, to £1.03 million.
The LTA is inflation-linked, so it is likely that the limit will rise each year, though it could still cause problems, for well-funded pensions.
How retirees have been affected
A Freedom of Information request submitted by Retirement Advantage shows that the total amount received in tax from pensions as a result of people exceeding the Lifetime Allowance has increased by £100 million (1000%) in the decade between the 2006/07 tax year and 2016/17. As a result, the amount of people applying for protection has increased from 8,000 to 61,000 in the same timeframe.
What can you do to protect your pension?
If you think that you are at risk of breaching the Lifetime Allowance, you have four options:
1. Pay the tax
It’s not the best plan if you want to hold on to your money and we probably wouldn’t recommend it, but you are free to choose to take no action and simply account for the tax due when planning your withdrawals.
2 .Save in other places
If you know that your pension is likely to be close to, or breach the LTA, but you don’t want to stop contributing to the money you will have available in retirement, you will need to look at alternative saving and investment options. These might include ISAs (Individual Saving Accounts), normal savings accounts or investments which do not fall under the definition of a pension.
For those who have already breached the LTA, there are protections available to reduce your tax liability.
These are known as Individual Protection and Fixed Protection. However, they are quite complex, and their suitability will depend on your personal circumstances. Therefore, it will be much more beneficial to pop in for a chat or get in touch with us to discuss those options.
4. Talk to us
By engaging with a financial planner, you will be able to see the big picture where your money is concerned. This will include everything from your current circumstances, leading into retirement and ending with a clear plan which will see you meeting your financial goals in the most efficient way.
For some people, that efficiency will involve making plans to reduce the amount of arbitrary taxes they might encounter, which will include paying tax on retirement income surpassing the Lifetime Allowance.
A final warning: Beware the hidden Lifetime Allowance trap
If you have a Defined Benefit, or Final Salary pension, you could be headed, unwittingly, for difficulties where the LTA is concerned. This is due to the complex calculations involved when working out the value of these schemes for Lifetime Allowance.
Due to the length and intricacies involved in the valuation process, it is possible to be caught out by the LTA, even if you are not expecting to receive a very high income. We can give more information about your personal circumstances and likelihood of breaching the LTA if you decide to talk to us.
To discuss the options available and ensure that you can enjoy the maximum retirement income, without incurring huge tax penalties, get in touch with us on 01664 77 88 99.