Jeremy Hunt was unexpectedly generous to some retirement savers in his Budget when he axed the £1.07m limit on the amount that can be saved in pensions tax-free. Known as the “lifetime allowance”, or LTA for short, this cap is going to be history as of 6 April, the first day of the new tax year. From then on, you can save as much as you like in your pension with no higher tax rates of up to 55 per cent for breaching the limit.
This could save someone with a larger pension a lot of money. Calculations carried out by Blick Rothenberg, the accountancy firm, show that if you have a £1.5m pension you will be £234,795 better off without the cap, assuming you take your pension in one go.
But this gift may be time-limited, as Labour has pledged to reverse the move, and reintroduce the lifetime allowance should the party be reelected in 16 months’ time. Describing Hunt’s move as a “gilded giveaway”, Labour said it would benefit only the top 1 per cent of earners.
This may understate how many people could be snared by the reintroduction of any lifetime allowance cap, however.
According to new figures from consultants, Lane Clark & Peacock, up to 2 million people could be affected by any reintroduction of the lifetime cap, with about 300,000 people already at the limit and the remainder either nearly there or can expect to be there when they retire.
It is likely that the nation’s independent financial advisers (IFAs) phones are very busy, as they give advice on what to do to prevent their pension pots being snaffled up by the taxman before the next general election.
But equally there is no guarantee that a future Labour government will not reintroduce the pensions cap and that it will not apply retrospectively. So what can retirement savers who are at or near the limit do to protect their savings?
Final salary pensions
Steve Webb, former pensions minister in David Cameron’s coalition government and now partner at Lane, Clark & Peacock, said that it would depend on whether the person has a so-called final salary pension, also known as a defined benefit (DB) scheme, or a defined contribution (DC) scheme, where you invest the money and take the risk yourself.
In the case of DB schemes, the day a person retires is the day the pension limit is tested. Webb belives DB scheme holders may get tactical.
“It’s perfectly plausible that people who are close to retiring will time their retirement in time for the General Election,” Webb said, adding, “If you retire now they can’t touch you.”
Defined contributions pension
These people could build up their pots before the election and then decrease the amounts just before the nation goes to the polls. Webb suggests you could either buy an annuity with the amount above which you think Labour will cap the lifetime allowance, assuming it brings it back, or shelter the cash in an Isa.
So if you have £1.25m, and assume Labout will reinstate the lifetime allowance to where it currently is at £1.07m, then you could put £250,000 into an annuity or another form of savings. This way you won’t trigger the limit when it reappears.
When you withdraw your money
The 25 per cent tax-free lump sump you are allowed to take from your pension money will remain pegged to the current lifetime allowance, rather than 25 per cent of your whole pot. This means most people taking money out of their pension after April 6 will have a limit of £268,275 that they can take out tax-free.
“For people with bigger pension pots, the proportion that they are able to take-tax free will become less valuable as inflation takes effect,” says Stefanie Tremain, tax partner at Blick Rothenberg accountancy firm. “This means their £268,275 will be worth less in 10 years’ time that is now.”
The one group of people who are an exception are those that applied for fixed protection with the Inland Revenue. This is an arrangement where you fix your lifetime allowance limit at either the value of the pension on April 2016 or at £1.25m. They will still get a tax-free lump sum of up to 25 per cent of £1.25m rather than £1.07m.
How to plan your retirement when there is such an uncertainty?
Both Tom Selby, a pensions specialist at AJ Bell and Webb caution against making big financial decisions based on this little information. Selby said: “One of the big problems with pensions is that rules can and do change far too often, particularly when it comes to tax allowances. That can lead to people either trying to second-guess the future and making potentially catastrophic mistakes, such as withdrawing their entire pension and paying a huge unnecessary income tax bill, or simply not saving at all because they simply don’t trust the politicians not to move the goalposts.”