Announced in the 2023 UK Budget (15 March 2023):

  • The lifetime allowance charge will be removed from 6 April 2023
  • The lifetime allowance will be abolished altogether from April 2024

*** The content below refers to the current rules around lifetime allowances and will be updated in line with the changes as they are legislated and/or come into effect.

What is the UK LifeTime Allowance?

The UK Life Time Allowance (LTA) is a limit imposed by Her Majesty’s Revenue and Customs (HMRC), that dictates what can be withdrawn from registered pension schemes without incurring an LTA tax charge.

All pension capital is allowed to grow free of tax and free from LTA assessment. It is only when a member is looking to take benefit (known as a benefit crystallisation event) that the full pension pot will be marked against his/ her LTA.

The current standard LTA is £1,073,100 and is frozen at this level until April 2026.

*** Recent UK newspaper speculation (June 2021) has indicated that the UK Treasury is looking at changes to pension allowances and tax reliefs as a means to help pay the Covid bill, and one of the recommendations is to reduce the Lifetime Allowance to £800,000.

KEY POINTS

  • A limit applies to the amount of pension benefit that can be taken without triggering an extra tax charge – this limit is known as the ‘lifetime allowance’ (LTA).

  • Pension benefits are tested against the LTA at ‘benefit crystallisation events’ (BCEs) – these events are generally when pension benefits come into payment.

  • The value of benefits tested at each BCE uses up some (or possibly all) of the available LTA.

  • No LTA tax charge applies until benefits are taken more than any remaining LTA.

  • The LTA tax charge only applies to the benefits crystallised more than the allowance.

  • It’s possible for an individual to have a larger LTA than the standard amount through various protections.

  • Saving into a pension doesn’t have to stop once funds reach the LTA.

Historic LTA figures

Below are the figures for the standard LTA since its introduction in the tax year 2006/07:

TAX YEAR STANDARD LTA TAX YEAR STANDARD LTA
2020/21 to 2025/26 £1,073,100 2012/13 £1,500,000
2019/20 £1,055,000 2011/12 £1,800,000
2018/19 £1,030,000 2010/11 £1,800,000
2017/18 £1,000,000 2009/10 £1,750,000
2016/17 £1,000,000 2008/09 £1,650,000
2015/16 £1,250,000 2007/08 £1,600,000
2014/15 £1,250,000 2006/07 £1,500,000
2013/14 £1,500,000

From 2018/19 the standard LTA had been set to increase with inflation each year – based on the increase in CPI in the 12 months to the previous September (rounded up to the nearest £100). However, the Chancellor announced in the 2021 Budget that it was to be frozen at the 2021/22 level for another five years.

What are Benefit Crystallisation Events?

Every time untouched benefits from a pension scheme are brought into payment, this is known as a benefit crystallisation event (BCE).

Generally speaking, the amount used is expressed as a percentage of the standard LTA, rounded down to two decimal places. An individual could crystallise benefits on a number of occasions, so the percentages used are added together at each BCE to check if the individual’s LTA has been exceeded. If the cumulative percentage exceeds 100% at a BCE, the amount crystallised above the available allowance is subject to the LTA tax charge.

BCEs can also occur:

  • on receipt of an ongoing pension
  • on death before age 75
  • on reaching age 75
  • on transfer to a qualifying recognised overseas pension scheme (QROPS)

The amount of LTA used up at a crystallisation event depends on the type of benefit being paid, but the main benefit types are valued as follows:

BENEFIT TYPE VALUE FOR LTA PURPOSES
Lifetime annuity Amount of fund used to purchase the annuity
Income drawdown Amount of fund designated for drawdown
Scheme pension 20 x the initial annual rate of pension income
Tax-free lump sum Amount of the lump sum

What are the penalties for exceeding the LTA?

In short, the penalties are quite severe. Exceeding the limit will result in an additional tax charge (on any amount over the LTA) of:

  • 25% (applies to the excess) if it is used to provide a pension. Any pension paid will also be subject to income tax at the individual’s appropriate rate.

  • A flat 55% on any lump sum withdrawals. This is irrespective of the members normal income tax rate.

  • If it’s transferred to a QROPS, an immediate LTA tax charge of 25% applies.

DO I HAVE A LIFETIME ALLOWANCE PROBLEM?

Many people may have an LTA problem but don’t know it. With interest rates being low in recent years, the value of pension transfer values offered for many Final Salary / Defined Benefit pensions in particular can take people by surprise, with values being much higher than many expect. By requesting values for your UK pension(s) you will be able to find out if you could potentially have an LTA problem now or in the future.

HOW CAN A QROPS IN AUSTRALIA MINIMISE THE PROBLEM?

Whenever a member moves their pension capital out of the UK and into an HMRC Qualifying Recognised Overseas Pension Scheme (QROPS), HMRC effectively ‘mark’ the transferred sum against the member’s LTA. Any amount above the LTA would result in a tax charge of 25%, which is effectively the lowest tax charge payable in this scenario. As the pension amount that has been transferred is marked in stone, the pension is entirely protected, even in the instance of the member returning to the UK and will allow the pension capital to grow free of any future LTA charge.

Protection from the decreases in the LTA (fixed & individual protection)

It is possible in some circumstances to obtain LTA Protection over and above the current £1,073,100 limit.

The LTA peaked at £1.8M in 2010/11. Since then, it has dropped on three occasions. It eventually started to increase again, in line with CPI, from 2018/19 onwards.

Each time it dropped, HMRC introduced protections to allow people to retain a higher personalised LTA.

Having any of the fixed or individual protections gives an individual their own personal LTA, and whenever any benefits crystallise while the protection is in force, a percentage of their personal LTA will be used up, provided the individual provides information on their protection to the scheme administrator.

If increases to the standard LTA take it above the level of an individual’s protected LTA, they’ll automatically revert to the higher standard LTA.

With speculation regarding further reductions afoot, we would suggest that along with requesting pension valuations, that you discuss with us whether protecting your LTA is possible for you, at what level this can be protected at and how this can be arranged.

Here we look at busting five common myths that may be contributing to the perception that continued funding above the LTA is always ‘bad’.

The key word is ‘allowance’. It’s not a ‘limit’ to funding.

There’s nothing to prevent individuals from continuing to pay in – they still have an annual allowance available (£40,000 if not reduced by the tapering for high earners), allowing them (or their employer) to make contributions and get tax relief at their highest marginal rates (only if UK tax resident). The LTA is not a barrier to pension saving or the growth on the investment. It’s the point where you have to look at what the likely tax treatment of this additional fund will ultimately mean.

Of equal importance for all employees, if funding is stopped, there may be no alternative form of remuneration on offer to replace the employer pension contribution. This can considerably strengthen the argument to carry on funding.

When individuals hit the LTA with their fund… nothing happens. There’s no immediate penalty. They will just have a fund greater than the amount the allowance protects. The tax charge is only incurred when benefits are crystallised, such as when the fund is designated for drawdown.

The charge only starts to bite when there’s not enough LTA to cover the fund being crystallised. Benefits are tested when they vest, also known as a crystallisation event. Each time the individual crystallises some of their pension, a percentage of the LTA is used – but the charge itself only comes into play when there’s no longer enough LTA available to cover the amount being crystallised.

By phasing retirement and only crystallising the funds needed each year, the timing of the LTA charge can be managed and any charge on funds greater than the LTA delayed until age 75 (at which point uncrystallised funds will be tested along with any investment growth on crystallised funds).

The charge is often expressed as 55%, but that’s only payable if the excess over the LTA is taken as a lump sum (or series of lump sums). If the individual moves it to their drawdown pot instead, only 25% will be deducted from the amount crystallised (remember there is no tax-free cash element). There will of course be an income tax charge when the income is ultimately taken but, if the member is only a basic rate taxpayer at this time, the overall effective rate would only be 40% (i.e., 15% less than the 55% headline rate).

There is no second LTA test on death for funds already crystallised. So, if the client dies before age 75, their beneficiaries will be able to inherit the pot without any further LTA charges. And of course, income they take will be tax free (in UK, not in Australia)- so the only UK charge incurred would be the 25% LTA charge when the funds were originally put into drawdown. Any income will however be assessed for income tax in Australia.

If the client dies after age 75 then the beneficiaries would pay income tax at their own rates on amounts drawn. But again, including the 25% LTA charge, this could mean an effective rate of 40% for a basic rate taxpayer. If the beneficiary has unused personal allowance, there may even be no further UK tax to pay.