In his 2021 Spring Budget, chancellor Rishi Sunak froze the Lifetime Allowance (LTA) at its current rate of £1,073,100 until at least 2026. It had previously been expected to rise in line with inflation.

The move is set to raise around £1 billion for the Treasury over the next five years. Some of this money will come from the LTA charge levied on those who exceed the frozen allowance. The government also expects to save money on tax relief as pension savers stop contributing earlier than planned in a bid to avoid the charge.

At over £1 million, the LTA might have seemed out of reach for many, but five years of growth could see increasing numbers of pension savers affected by the allowance freeze. In fact, your clients who currently hold a pension pot of just £600,000, could find themselves liable for an additional charge.

Here’s a guide to everything you and your clients need to know about the LTA, when the charge applies, and what Boolers can do to mitigate its effects.

The LTA is a cap on the amount that can be withdrawn from a pension

Introduced back in 2006, the LTA is the amount that can be withdrawn from an individual’s pensions before an LTA charge applies. The charge is 55% on any excess funds taken as a lump sum, and 25% on funds taken as income.

Back in 2006, the LTA stood at £1.5 million and peaked at £1.8 million. For the 2016/17 tax year, it dropped to £1 million and has been rising in line with inflation ever since, or at least, until April 2021.

The freeze will provide an extra £990 million for the Treasury over the next five years, but at what cost to your clients?

Whether individuals will be affected depends on their fund value, future growth, and the number of years until their retirement

There are several factors to consider when deciding if an LTA charge might be applied.

Your clients need to weigh up the value of their pension pot, the current and anticipated future growth of their fund, and how far away from retirement they are.

Recent figures suggest that a pot of around £580,000, growing at 8% a year, would breach the LTA within nine years. This assumes no further contributions and an LTA increasing by 2% a year from April 2026.

Using the same assumptions, 4% growth over the same period would mean a pot of just over £800,000 today could become liable for an LTA charge. For those only five years from retirement, a pot of between £730,000 and £880,000 would be sufficient to trigger a charge.

Breaching the LTA and paying the charge isn’t always your clients’ worst option

Exceeding the LTA and paying the charge isn’t necessarily something to avoid at all costs. It is simply HMRC’s way of getting back tax relief paid on the amount that exceeds the limit.

Individuals will need to think carefully about their circumstances and decide what is right for them. And while this isn’t always easy, Boolers are here to help. Here are a few points to consider:

1. Opting out could mean missing out on growth and valuable benefits

Opting out of a workplace pension scheme, for example, might seem like an effective way to stay within the LTA. But doing so could mean missing out on pension tax relief, valuable employer contributions, and the investment growth of a larger pot.

A workplace pension might also have additional, possibly invaluable, benefits like death in service cover. These benefits could be lost if an employee opts out of the scheme.

2. Some clients might have a protected LTA – We can help them find out

A sudden drop in LTA – such as occurred in 2012 when it dropped from £1.8 million to £1.5 million – threatened to penalise prudent savers unfairly. For this reason, HMRC introduced several LTA protections.

Although the deadline for applying for many of these protections has now passed, you might have clients with primary, enhanced, fixed or individual protection that remains valid.

The rules and application deadlines for each vary, but we can help your clients decide which, if any, protections apply to them.

3. Other savings and investment products might help keep pensions below the LTA

Where a client is in danger of exceeding the LTA, it might be possible to use other investments such as ISAs to spread their wealth more tax-efficiently.

The Annual Allowance – the amount individuals can pay into a pension each year while still receiving tax relief – is set at £40,000. But individuals can also invest £20,000 into an ISA each year. They will benefit from tax-free interest earned in a Cash ISA, while gains made in Stocks and Shares ISAs are free of Income Tax and Capital Gains Tax.

Taking a holistic look at an individual’s financial position is the best way to find the most tax-efficient solutions for them.

Get in touch

If you have clients who would benefit from help managing their pension as they approach the LTA limit, please get in touch. Email or call 0116 240 7070.

Please note

The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor.

Workplace pensions are regulated by The Pension Regulator.