Lifetime allowance curbs snare pension savers

The amount of tax revenue raised from savers breaching the lifetime allowance on pension contributions has jumped by 80 per cent as growing numbers are caught by restrictions on tax relief.

In 2015-16, HM Revenue & Customs netted £36m from savers who exceeded the lifetime allowance (LTA), up from £20m in 2014-15, according to data released following a Freedom of Information request.

Over both years the LTA, which governs how much can be paid into a pension and benefit from tax relief, was £1.25m, but has since fallen to £1m.

Savings in excess of the LTA when the fund is drawn can attract tax charges of up to 55 per cent.

Over the past five years, revenue raised by tax authorities for breaches of the LTA has tripled from £12m in 2012-13 when the LTA was £1.5m, according to the data.

In 2013-14, the tax on payments rose to £19m and then £20m a year later when the threshold fell to £1.25m.

“An increasing number of taxpayers who have done the responsible thing and saved for retirement are being caught out by this super tax trap,” said Tim Holmes, managing director of Salisbury House Wealth, the adviser that submitted the FOI to HMRC. “Many of these individuals are not particularly high earners.”

Tax charges for breaches of the lifetime allowance
Tax year Tax on payments Lifetime allowance
2012-13  £12m £1.5m
2013-14  £19m  £1.5m
2014-15  £20m  £1.25m
2015-16  £36m  £1.25m
Source: HMRC

The amount of tax collected for LTA breaches is reported by self-assessment returns. Charges are only payable once payments are made from the pension.

The level of tax charges levied for exceeding the LTA is dependent on whether the funds in breach have been taken as a lump sum or as income. On the former, 55 per cent tax is levied, but 25 per cent is taken on the latter.

HMRC did not supply the value of tax collected for breaches of the LTA in 2016-17, when the threshold fell from £1.25m to £1m. But it has previously revealed a total of £126m in pension savings exceeded the £1.25m lifetime allowance in 2015-16, up from £78m the year before.

Successive cuts to the allowance have widened the pool of savers at risk from the charges. The LTA has fallen from £1.8m in 2011-12 to £1.5m in 2012-13, then to £1.25m in 2014-15 and to £1m in 2016-17.

“The reduction of the LTA to £1m in 2016 has seen a huge surge in the number of people being hit by the tax,” said Mr Holmes.

“Often this is totally unexpected — and can be incredibly damaging to retirement plans. Individuals need to manage their pensions extremely carefully in order to avoid having to part ways with a huge amount of their hard-earned savings.”

Pension experts said the tax revenues disclosed through the FOI were likely to be “the tip of the iceberg”.

“With the full impact of the more recent allowance cuts yet to feed through, this initial figure will jump into the hundreds of millions over the next few years,” said Tom McPhail, head of policy with Hargreaves Lansdown, the investment managers.

“Pension savers should also brace themselves for more cuts to come; the Treasury still needs to save money and our pensions are an easy target.”

Speculation has grown that the government will look to further trim the lifetime and annual savings allowances after David Gauke, secretary of state for work and pensions, ruled out any major overhaul of pensions tax relief.

Tax relief on pension contributions is currently pegged to the saver’s marginal rate of income tax. So top-rate taxpayers receive 45 per cent tax relief on their contributions, higher earners receive 40 per cent, and basic rate payers 20 per cent.

Even non-taxpayers are entitled to claim basic rate relief on contributions.

But this month Mr Gauke said that he did not see “a particular consensus emerging” for an overhaul of retirement savings incentives.

The standard annual allowance is currently £40,000 and the money purchase annual allowance, which is applied to over-55s who have accessed their pension pots flexibly, fell to £4,000 from £10,000 in April.

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