Chancellor Jeremy Hunt in his Budget today took the unexpected step of scrapping the pensions Lifetime Allowance altogether, while also raising the annual allowances. These measures mean most savers are able to pay significantly more into their pensions while still benefiting from tax relief and not triggering excess charges.
The key measures announced in the Budget today on pensions allowances are firstly, that the Annual Allowance increased from £40,000 to £60,000 from 6 April 2023, with three years carry forward remaining.
Money Purchase Annual Allowance will go up from £4,000 to £10,000 and the minimum Tapered Annual Allowance from £4,000 to £10,000 from 6 April 2023.
The adjusted income threshold for the Tapered Annual Allowance will also be increased from £240,000 to £260,000 from 6 April 2023.
Lifetime Allowance charge is to be removed from 6 April 2023, before LTA is fully abolished in a future Finance Bill. The maximum Pension Commencement Lump Sum for those without protections will be retained at its current level of £268,275 and will be frozen thereafter
Gary Smith, Financial Planning Partner at wealth management firm Evelyn Partners, broadly welcomed the measures and said the scrapping of the LTA had come as something of a surprise:
“That the Lifetime Allowance was going up today, we knew: that it has been scrapped altogether is a bit of a rabbit out of the pensions hat. This and other limits to tax-beneficial pension contributions have created a number of distortions to both saving for retirement and career decisions for some higher earners, so the abolition of the LTA and lifting of other allowances should go some way towards easing those disincentives.
“The absence of an LTA from April will return us to a state of affairs that existed until 2006 when the limit was introduced at the level of £1.5million before rising to £1.8million in 2011. The removal of the LTA marks a welcome and unexpected change of direction as the LTA had been reduced in recent years, and was scheduled to be frozen until 2026.
“That policy has led to an increase in defined benefit pension holders, most notably GPs and senior NHS professionals, taking early retirement or being reluctant to take on extra work so that they don’t incur big tax charges. However, it has also been a growing concern for holders of defined contribution pension pots, and while the numbers breaching the LTA were small, that is probably dwarfed by the numbers who have ceased to save in to pensions before they reach the ceiling. As investment growth could take a pot above the LTA, not just the amounts contributed, that added further jeopardy for those who made good investment decisions.
“The frozen annual allowance has similarly restricted those in generous DB schemes, and can also be a pain for the self-employed or business owners who have variable income from year to year – although this is ameliorated by the ability to carry forward unused allowances from the previous three years. Without careful monitoring it is an easy tax trap for high-earners to fall into as it is up to the individual to make sure they don’t exceed the £40,000 annual limit.
“Finally, the Money Purchase Annual Allowance – introduced to prevent wealthier savers recycling their tax-free lump sum into new pension arrangements – is back to where it was originally set at £10,000. The £4,000 limit meant that anyone going back to work after accessing their pension funds flexibly would fill the allowance with a salary of £50,000 at the auto-enrolment 8% contribution rate.
“Triggering the MPAA also wipes out your three years of unused carry-forward allowances. Whether or not it encourages older economically inactive cohorts back to work, we would welcome a boost to the limit as it is an obscure tax trap that catches out a lot of otherwise financially astute savers.
“There are, however, some potential snags that could make the benefits of these higher allowances ambiguous for some savers. One is that a sudden scrapping of the LTA will produce a range of outcomes affecting savers who are in slightly different positions pre- and post-retirement. It remains to be seen whether likely cliff-edges will be smoothed out in some way.
“Two, the complex tapered allowance remains in place, even with a slightly higher threshold. For employees, this will mean that someone who is earning enough to take advantage of the improved £60,000 annual alllowance will almost certainly trigger the taper, and therefore never benefit from the extra headroom – unless the taper is reformed. The taper is an ungainly distortion on its own as it punishes those who had hoped to build up their pension pots late in their career when their earnings have peaked, after perhaps a couple of decades of prioritising mortgage payments and the costs of raising children.
“Three, those who took out fixed protection against the falling LTA in 2012, 2014 and 2016, and have as a result not made pension contributions for several years in order to preserve previous higher lifetime allowances, might now consider resuming pension contributions. However, making pension contributions will automatically result in fixed protection being lost, and this would result in tax-free cash reducing to the current level of £268,275.
“A further risk in abandoning fixed protection is that a General Election is approaching and therefore there is some risk that a change of government could result in the reimposition of an LTA, so Labour’s reaction to these moves will be keenly watched.”