Abolition of the pensions Lifetime Allowance – what does it mean for you?

Earlier this year, the UK government announced a significant change in its pension policy, the abolition of the Lifetime Allowance (LTA). This move marks a pivotal shift in how pension savings are taxed in the UK. So what does this mean for taxpayers?

What was the pensions Lifetime Allowance?

Introduced in 2006, the LTA was designed to cap the amount of tax-relievable pension savings an individual could accumulate over their lifetime. Initially set at £1.5 million, it was later increased to £1.8 million before being reduced to £1,073,100. Any pension savings exceeding this limit were subject to a hefty tax charge, which often deterred high earners from contributing more to their pensions.

Why abolish the LTA?

The abolition of the LTA is part of the government’s strategy to encourage older individuals, particularly those aged 50 and above, to remain in or return to the workforce. The LTA was seen as a disincentive for continued employment, as individuals nearing or exceeding the limit might reduce their working hours or retire early to avoid the tax penalties. By removing this cap, the government aims to boost labour market participation and, consequently, economic growth.

Key changes and implications

1. Tax-free cash limits: With the LTA abolished, the total amount of tax-free cash an individual can receive is now capped at £268,275, unless they hold a valid lifetime allowance or lump sum protection. This change ensures that while the overall cap is removed, there are still limits to prevent excessive tax-free withdrawals.
2. Lump sum taxation: The total amount of lump sums an individual can receive before marginal rate taxation applies is set at £1,073,100, again unless they hold a valid protection. This measure ensures that large lump sum withdrawals are still subject to taxation, maintaining a level of fairness in the system.
3. Encouraging savings: The removal of the LTA is expected to encourage more individuals to save for their retirement without the fear of tax penalties. This could lead to a more financially secure retirement for many and reduce the reliance on state pensions.
4. Economic impact: By incentivising older individuals to stay in the workforce, the government hopes to address the issue of economic inactivity, which has been exacerbated by the Covid pandemic. A more active labour market can drive productivity and support economic growth.

What about the Autumn Budget?

Labour has decided not to reintroduce the LTA. Chancellor Rachel Reeves had previously indicated that Labour would bring back the LTA if they got into power, but the party has now dropped this plan due to concerns about the complexity and uncertainty it would introduce.

This does not mean that pensions are safe from changes. There is much speculation that Labour might target pension tax relief in the upcoming Autumn Budget on 30 October. The cost of pension tax relief to the government is significant, and there are discussions about potential reforms. However, no specific details have been confirmed yet.

A much repeated prediction is that a limit may be put on income tax relief for pension contributions to a flat rate, such as 30%. Accordingly, if you are planning to top up your pension this year, you may want to consider doing so before the Budget.

However, do be aware that Budget predictions are often wrong!