After reductions to the LTA in recent years, the allowance is now moving in the opposite direction — although £1.03 million remains significantly less than the £1.8 million permitted in 2012. The government has also announced the LTA will rise annually in line with inflation. The increase at the start of the tax year is based on the previous September’s CPI figure, in this case 3%.
Investors need to be aware of the impact of the LTA on their total potential pension savings. This can include such assets as former or current workplace pensions, so it’s important to get up-to-date valuations for your LTA calculations.
If you think you may breach the LTA when taking retirement benefits, depending on your personal circumstances and how much of your pension benefits you intend to take, you may want to consider alternative retirement provision, which could include other investments or maximising your ISA allowances.
The LTA can be important when considering transfers out of defined benefit (DB) pensions. Transferring benefits can lead to a breach of the LTA – especially with the high transfer values on offer from many DB schemes.
To calculate the value of a DB pension for lifetime allowance purposes, the accrued benefit is multiplied by 20. If you are due to receive a DB pension of £50,000 a year at your scheme’s retirement age, this is worth £1 million for the purposes of the LTA. This is just within the current LTA, but the transfer value may well be higher, pushing your total pensions savings above the LTA and triggering a tax charge.
If your pension fund is higher than the LTA, you might be able to avoid a tax charge if you qualify for ‘protection’. There are two main types of protection for those affected by the cut to the LTA in 2016: fixed protection (2016) and individual protection (2016.)
- Fixed protection 2016 lets you fix your LTA at £1.25 million, but only if no pension contributions have been made after 5 April 2016 to defined contribution schemes and there has been no benefit accrual under DB schemes.
- Individual protection 2016 can be applied for even if there have been contributions/accrual after 5 April 2016. This provides a personalised LTA equivalent to the total value of your pensions on 5 April 2016, or £1.25m if less.
- It is still possible to apply for individual protection 2016 as long as your pensions were worth over £1 million at 5 April 2016.
The key requirement is to apply before taking any pension benefits. This can be important if you are planning on taking tax-free cash or using pension freedoms before your planned retirement date.
No more pension contributions can be made once fixed protection is in place. You can contribute under individual protection but any additional funding may exceed your LTA, it may not for example if investment values fall beneath your level of protection or if the standard LTA increases above your personal LTA (your LTA would then revert to the standard LTA instead).
These schemes can help you avoid unnecessary additional tax charges.
If you would like to discuss how these changes will affect you, then please contact us.
The Financial Conduct Authority does not regulate tax advice. Levels and bases of taxation and tax reliefs are subject to change and their value depends on individual circumstances. Tax laws can change. Occupational pension schemes are regulated by The Pension Regulator.