Pension lifetime allowance – how it affects you

In his 2021 Budget, the Chancellor announced a five-year freeze on the lifetime pension allowance. What does this mean for you and your retirement fund?

What is the lifetime pension allowance?
The lifetime pension allowance sets a limit on how much you can save in your pension before you start paying tax on anything over the limit. For a few years before the 2021 announcement, the limit had been tied to inflation, meaning that it rose in line with the cost of living.

With the global pandemic and surge in inflation over the past couple of years, the decision was made to freeze the limit – at £1.073 million – until 2026. It’s hoped that the freeze will generate additional revenue as savers slow down or stop contributing to their pensions and don’t claim tax relief from the government.

How are my pensions affected by the lifetime allowance?
The lifetime allowance applies to all types of non-state pensions in your name – so that includes any defined benefit (final salary or career average) schemes you have along with any defined contribution pensions.

The limit of £1.073 million might seem like a huge amount. But if you’re a medium-to-high earner, have saved into pensions from an early age and are approaching retirement, you could one of the millions who are affected (and caught unawares) by reaching the threshold.

As pensions are so complicated, seeking advice is important and we can help clarify the status of your pensions, discuss your retirement plans and how to proceed.

What happens if you exceed the lifetime allowance?
Many of us have more than one pension, usually accumulated through different jobs over the years. Keeping track of them and how much they contain can be tricky and time consuming, as you’ll need to look at their expected value when the time comes. Your adviser is best placed to gather this information and help with your next steps.

If your total exceeds the lifetime allowance, the excess amount will be taxed as follows:

  • 55% if you receive the amount as a lump sum from your provider
  • 25% if your payments are gradual or are cash withdrawals

These are large penalties on your savings, so it’s worth acting now to find a way to protect your hard-earned pension.

Seek help to protect your pension
Protecting your pension and making sure you’re able to live comfortably in retirement and keep up with the cost of living is something we can help with. So, if it looks like your pensions could be affected by reaching and exceeding the lifetime allowance, there are some options you can discuss with your financial adviser:

Divert savings into an ISA You can earn tax-free and make withdrawals in most cases. Our advisers can help you calculate how much you will need to live comfortably in retirement and help plan your investment strategy to achieve that goal.

Combine pensions with your spouse Consolidating your pensions can be an effective way to grow your retirement savings in one place. It can also save time on the administration involved, cut down on fees and create a more streamlined investment strategy.

Claim pension credit Many pensioners are eligible for pension credit but fail to make a claim. It’s available if you are over the state pension age and on a low income, are a carer, severely disabled or responsible for a child. It could boost your retirement income up to £182.60 a week if you’re single, or £278.70 for couples. It’s separate to the state pension, and we can help calculate whether you and your partner are eligible.

Pension allowance protection
Your adviser will be able to assess whether your pension could benefit from protections that help avoid the tax charge by offering a higher lifetime allowance. But there are several conditions and criteria you’ll need to meet. Our experts can advise whether it would be applicable to your situation.

Your adviser is ready to help you navigate the complex area of pension and ensure you move forward in the strongest position for you and your loved ones.

HM Revenue and Customs practice and the law relating to taxation are complex and subject to individual circumstances and changes which cannot be foreseen.

The value of investments and any income from them can fall as well as rise and you may not get back the original amount invested.

Key takeaways

  • The lifetime pension allowance sets a limit on how much you can accumulate in all of your pensions before you start paying tax on your funds.
  • The government has frozen the limit at £1.073 million until 2026.
  • The allowance applies to all types of non-state pensions in your name, and any amount exceeding it will be taxed.
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