The frozen pensions lifetime allowance (LTA) increasingly stands out as the harshest stealth tax, an example of fiscal drag at its worst. In comparison, whilst the nil rate band for inheritance tax purposes has been frozen since April 2010, and will remain the same until April 2026, the LTA will have affectively fallen in actual terms by more than 40% over this time, from £1,800,000 to £1,073,100.*
If ever attention was needed to be taken regarding one’s pensions savings long before beginning to withdraw a retirement income, it is now. And that is even before decumulation considerations come into play with the process of converting pension savings to retirement income. Of course, as every client is different and one size doesn’t fit all, targeted financial advice tailored specifically to a client’s circumstances can bring significant benefits.
An additional £1bn in tax is projected to be collected due to the LTA freeze in the 5 years to 2025/26,
Which is over 30% more than was collected in the 12 years between 2006 and 2018, when figures were last published. And since its introduction in 2006 at £1.5m, by 2020/21 the LTA had fallen by 28%. To put this decline in context, a broad basket of UK stocks had grown by more than 200% over the same 15 years.
UK inflation, as measured by the consumer price index (CPI), which since 2010 most allowances are pegged to, is forecast by the Bank of England to reach over 10% in the final quarter of 2022**. Losing out on increases to the LTA at such a high rate is therefore particularly damaging. And let’s not forget, the decision to adopt CPI as the chosen measure has meant an even slower increase in the limit. Before 2010 the retail price index (RPI) was used and this inflation gauge has consistently come in higher than CPI over the last 10 years***.
With no guarantee it will increase after the current freeze, and the fact that compounding growth can take pension savers above the limit faster than anticipated, how might this be approached?
- Fixed and individual protection remain available, subject to individual circumstances. Though it is likely that relatively few will now qualify, this should not be overlooked.
- Re-directing future contributions to other arrangements, potentially for other family members, including junior individual savings accounts (JISAs) and children’s pensions. Additionally, even parental gifts into capital gains bearing assets, perhaps through a general investment account, allow that child’s own annual exempt amount for CGT to become available.
- Treating one’s risk exposure holistically, so that higher risk/return assets sit outside the pension, perhaps in an ISA, and lower risk/return within the pension.
- Ultimately, is the LTA excess charge worth paying, given the ancillary benefit of pensions, perhaps in terms of taxation upon death, in comparison to other personal options and reliefs that remain available?
Let’s break this final point down. The lifetime allowance excess lump sum charge is often perceived as high at 55% - or if paid as an income, 25% plus beneficiaries’ marginal rates of income tax. However, perhaps the excess charge is worth paying, given the ancillary benefit of pensions in terms of taxation upon death compared to other personal options and reliefs available. Where there will be no further contributions, reducing risk, to restrict returns, may be folly, given a taxable excess is better than no excess. This is another area where insights regarding risk with a discretionary manager are invaluable. This also applies to the situation where if a member does not accept a corporate contribution, it is not replaced by an alternative benefit.
The value of pensions and investments and the income they produce can fall as well as rise. You may get back less than you invested.
Tax treatment varies according to individual circumstances and is subject to change.
The Financial Conduct Authority do not regulate tax advice or tax planning
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*Table 8- Lifetime Allowance.xlsx (publishing.service.gov.uk)
Setting the standard Lifetime Allowance from 2021 to 2022 to 2025 to 2026 - GOV.UK (www.gov.uk)
**Monetary Policy Report - May 2022 | Bank of England
***Measures of Price Inflation: RPI, CPI, and CPIH - Actuaries in government (blog.gov.uk)
David Denton (FPFS TEP)
Head of TechnicalDavid is a Trust and Estates Practitioner. His primary role is to simplify, update and share technical knowledge, within the Quilter group, and the legal and accounting firms we and our clients work with.
This is to ensure that post-tax investment returns are maximised, despite complex and fast changing legislation impacting wealth management.