Sadly, about 20% of the population have no provision for their pensions, other than what the state will provide. A few years ago, the average pension pot was around £43,000, well below the amount required for a comfortable retirement. At the other end of the scale, doctors were leaving the Health Service early because the maximum they could save into a pension before onerously expensive additional taxes kicked in was “only” £1M. The government, which has had a few issues with the medical profession recently, has decided to act …
Currently the system works as follows:
The present lifetime pension allowance means you can save £1,073,100 (in a variety of pension pots) over the course of your life. You get 25% of your total pension pot tax free, but have to pay tax on the remainder when you take it out (either as income over time, or as a lump sum). This tax is applied at either the basic or higher rate, depending on your level of savings. However, if you have more than £1,073,100 then you pay tax at 55% on every penny over the pension lifetime limit. For example, if you were to draw out £100K and this amount exceeded the £1,073,100 threshold, it could trigger a £55,000 tax bill. This meant that doctors, for example, were reluctant to continue working and getting money paid into their pensions because it was, by and large, not really worth their while to do so. The government (and all of us) desperately needs doctors to keep working in order to try to overcome the myriad problems engendered by the Covid pandemic.
How it will work in the future:
The lifetime allowance charge was scrapped on 6th April, 2023. The allowance will be fully abolished from 6th April, 2024. This means that in future you will be able to save as much as you want into a private pension without extra tax penalties being applied when you withdraw that money.
Does the lifetime pension allowance change affect me? What about the annual pension allowance?
In its previous form, the lifetime allowance only affected those who had, or were aiming to have, more than £1 million in their pension pot. That will soon no longer be the case, although, of course, these changes will only really benefit the highest-paid workers who are also at an age where they have been contributing to a pension for long enough to be at risk of breaching the £1,073,100 threshold.
However, although this lifetime allowance did not apply to most of us, everyone needs to be aware that there are still limits as to how much you can pay into your private pension each year. This is the annual pension allowance, and it refers to the maximum amount you can pay into your private pension each tax year and still get 25% tax relief. It includes your contributions, your employer’s contributions and tax relief. The allowance was £40,000 until 6th April this year, when the government increased it to £60,000. Also, note this is in addition to any unused allowances from the previous three tax years.
This change is good news, because it means people can save more into a pension. But be aware, if someone goes over that £60,000 allowance, their pension won’t benefit from tax relief.
There’s more good news for the country’s highest earners who are affected by something known as the tapered annual allowance. Under previous rules, once your annual earnings exceeded £240,000, the amount you could pay into your pension and enjoy tax relief fell to a minimum of £4,000 a year.
But on 6th April this year, the minimum tapered allowance rose to £10,000 and, to make things even better, the earnings threshold also rose to £260,000 on the same date. Again, it’s the highest earners – those comfortable enough to be able to put up to £60,000 into their private pensions each year – who will benefit.
There is also good news for those who have already started to draw their pension (even if they are not fully retired) because the money purchase annual allowance is also changing. Once you start to do this (take money from your pension), the annual allowance referred to in the previous paragraph no longer exists. Instead, this annual allowance is replaced by the money purchase annual allowance (MPAA). The limit on this was £4,000, but it is now £10,000. This MPAA change may help people who have taken money out of their pensions in recent years. This applies to quite a lot of those older people who have struggled to cope with the impact of the pandemic and now are suffering from inflation and the current cost-of-living crisis. They might now be better placed to build their pension back up before they fully retire.
Younger people often don’t think about their pension. Earning money, raising families, trying to buy a house, these plus all the myriad things that afflict us as we try to make a living for ourselves and our nearest and dearest, all take priority. However, putting money aside is one of the most important things you can do. If you need any advice, contact a good IFA, or by all means speak to us and we’ll point you in the right direction…
Ashley Marshall, M&S Accountancy and Taxation Ltd