Posted on 19 July 2013
In the autumn statement in December, the Chancellor announced further changes to pensions. As well as reducing the annual allowance from £50,000 to £40,000, the ‘lifetime allowance’ for pensions is being cut from £1.5m to £1.25m from 6th April 2014. Pension funds in excess of the new lifetime allowance will be subject to a 55% tax charge, so, individuals with larger pension funds or generous final salary pension benefits need to review their options for protection.
What is the ‘lifetime allowance’?
The lifetime allowance is the maximum size of pension fund you can accumulate before tax charges will be levied by HMRC. The tax is payable when you crystallise the pension benefits and the rate depends on how you pay this excess. If the amount over the lifetime allowance is paid as a lump sum, the rate is 55%. If it is paid as taxable pension, the rate is 25%.
How do I work out the lifetime value of my pension?
If you have a defined contribution (money purchase scheme) then it is the amount of your pension pot when you take benefits.
A factor of 20 is used to determine the capital value of defined benefit pensions; a final salary pension benefit of £62,500 is all it takes to reach the new lower lifetime allowance of £1.25m.
How can I protect myself from the changes?
HM Revenue & Customs (HMRC) announced a couple of ways in which those with larger pension pots can protect themselves from the impact of the lifetime allowance cut: fixed protection and individual protection.
1. Fixed protection
Fixed protection gives you the chance to ‘lock in’ the previous £1.5m annual allowance and benefit from this instead of the reduced £1.25m annual allowance when you take pension benefits. The main drawback associated with fixed protection is that you can’t make any further pension contributions.
If you want to apply for fixed protection, the clock is ticking as the deadline is 5th April 2014.
2. Individual protection
This option is currently under consultation but is expected to allow you to continue contributing to your pension fund. The individual protection route might be attractive for those who get big employer pension contributions and cannot swap these for an alternative benefit, such as cash. Individual protection is expected to provide you with a personalised lifetime allowance, up to £1.5m, which is based on the actual value of your pension fund or pension benefits as at 5th April 2014.
How do I apply for fixed protection?
These changes form part of the 2013 Finance Bill which has been presented to parliament and is due for Royal Assent this summer. When the legislation comes into force you must apply for protection by5th April 2014.
HMRC have said that they expect this new reduction to have a much bigger impact on those saving for retirement than the previous cut to £1.5m, so if you have a large pension fund or benefits, you should review your situation. Deciding whether fixed or individual protection is right for you is rarely simple and you should seek professional independent financial advice to ensure you are making the right decision.
Smith Cooper Independent Financial Services: 01455 614500.
Information is based on our current understanding of taxation legislation and regulations. Any levels and bases of, and reliefs from taxation, are subject to change. Tax treatment is subject to individual circumstances