An Allowance or a Limit – Save a Lifetime of Additional Tax

Like me, you have probably worked hard and saved hard to build your retirement pension? Yes? Well done!! However, the tax on pensions is changing and could undo some of that good work.

Since 2006 there has been a limit (ironically called the Lifetime Allowance) on how much we can have in our pensions. The lifetime allowance is based upon ALL of our UK pensions except our state pensions. If we changed employment and have more than one pension, or if we have made additional voluntary contributions (AVCs) or/and even perhaps a personal pension or SIPP, it is the value of all these pensions which is used to calculate the amount of pension that counts towards the allowance.

Above the limit there is additional tax to pay. And as part of the measures to tackle the crisis this limit is being REDUCED again from April 2014. All the contributions made to your pensions before April 2014 are included in this limit so the change is, in effect, a retrospective one.

The Lifetime Allowance applicable from 6th April 2014 is £1.25M . It is perhaps worth noting that this allowance has already fallen from £1.5M last year and from a figure of £1.8M when it was first introduced.

WHY is it important to be aware of this figure? It can result in extra tax for us on our pension in retirement without us realising it and the consequence is expensive:

  • The limit is calculated by adding together the value of all your pensions AT RETIREMENT DATE. Your pension can be under the Lifetime Allowance now, but with investment growth, new contributions and indexation the value at retirement can exceed the allowance. See our case study below.
  • If the value of all your pensions added together at retirement exceed your Lifetime Allowance, there is additional tax of 55% to pay on lump sums and an additional 25% tax on all regular payments for the lifetime of those payments on the excess.
  • The value of a defined contribution pension like a personal pension is easy to determine as it is simply the current value of all the investments. The value for a defined benefit scheme is not. For example, a final salary company pension, a doctor’s pension, a university pension all give an estimate on your annual statement of the annual pension but NOT the capital value. However, all these types of pensions count towards the allowance. See our case study below.

Perhaps the most important reason is that there is planning that you can do to avoid this additional tax on your pension. There are various forms of “protection” available where registration is required and for people living overseas it may be possible to use a Qualifying Recognised Overseas Pension Scheme (QROPS). Transferring to a QROPS removes the Lifetime Limit Allowance requirement.

 Lifetime Allowance Pension Case Studies

  • Woman, age 48, with a personal pension and a SIPP, total value £589,000. She wishes to retire at 60. She is NOT paying any more into her pension. She will have a fund, at 6% pa growth, of £1,256,294 at retirement (when assessment takes place) even without further contributions to the pension scheme.
  • A person 55, with an anticipated pension at retirement from a final salary pension of £50,000 pa plus a lump sum of £283,000 this will be over the lifetime allowance limit.
  • A person retiring in May 2014 at age 60 with an indexed pension of £42,000 pa will be over the limit (on current annuity rates ).

The person who has worked for several different employers and has “frozen” company pension, several personal pensions which they now longer pay into and a pension which is now in drawdown. The company pension, whilst deemed frozen in terms of additional contributions could still grow at a rate of 5% pa until retirement. The personal pensions which have been stopped will likely still have some investment growth, increasing the size of the pension pot at retirement. Despite what appears to be the dormant status of the pensions, it is still possible the limit can be broken.

Other Things to Consider

There are some other things which need to be taken into account when deciding what to do. You may choose to pay the additional tax because of these other issues.. A review of your specific circumstances is essential. The other matters that need to be considered include:

  • Ill Health Pensions
  • Death Benefits
  • Guaranteed Pension Benefits
  • Auto enrollment

If you recognise any similarities between your pension position and the case studies, or if you have questions regarding the change to the Lifetime Allowance you should seek advice in plenty of time before the 6th April 2014 deadline. Enough time is required to get pension fund values, assessment of whether the Lifetime Allowance will be a problem for you at retirement and if it is, assessment of the options and alternatives to remove the liability to extra tax.

There are different options to remove your liability to this additional tax but you must review your circumstances carefully to make sure the correctly option is used.

Author: Barry Davys

Spectrum IFA Group

Tel: + 34 645 257 525

Email : barry.davys@spectrum-ifa.com

http://www.spectrum-ifa.com/barry-davys/

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