In this year’s spring Budget chancellor Jeremy Hunt announced a raft of changes to the pension tax programme that are set to have far-reaching implications.
So who will the changes affect and will they succeed in keeping people in work for longer?
The tax changes will affect a number of different groups. Firstly, those with pension pots approaching or breaching the lifetime allowance, or those who would likely be affected in the future, upon drawing benefits or the age 75 test.
In his announcement, the chancellor said the LTA charge would be removed from April 2023 before the allowance is abolished entirely from April 2024.
It may not entice those who have tasted the joys of retirement back to work, but it may not force early retirement.
Harry Bell, Charles Stanley
It is currently capped at £1.073mn. Under current rules, if a person breaches the LTA a charge will be applied to the excess – 55 per cent for benefits taken as a lump sum and 25 per cent if taken any other way, such as income drawdown, uncrystallised funds pension lump sum or annuity purchase.
As Harry Bell, director of financial planning at Charles Stanley, explains, many individuals who have previous protections, when lifetime allowances were introduced or adjusted, will have stopped paying into their pensions in order not to lose these valuable protections.
The types of individuals in scope under the LTA abolition include higher earners such as doctors, senior executives and business owners.
According to Scott Gallacher, director at Rowley Turton, the changes may also benefit the families of higher earners with large death-in-service benefits who die.
This is because death-in-service benefits are often written under pension legislation and therefore subject to the LTA.
Secondly, those who have previously been restricted to tax relief on a gross contribution of £40,000, called the annual allowance, will now be able to contribute up to £60,000 gross.
The annual allowance limits the total amount a person can contribute to a pension in one year without paying a tax charge.
This covers personal contributions, employer contributions and tax relief.
Alice Shaw, wealth planner at Succession Wealth, says the AA increase will allow business owners to potentially increase contributions for directors and employees, providing it meets HMRC’s “wholly and exclusively” test.
It will also allow those individuals with surplus funds to make larger personal contributions subject to them having the sufficient relevant earnings to qualify the contribution.
As Shaw explains further, the third set of people affected by the changes are higher earners, who will be positively impacted by the increased tapered annual allowance. This is where the annual allowance is reduced based on higher earnings.
The current annual allowance starts to be tapered £1 for every £2 over £240,000 until it reaches just £4,000. The tapering will now start at £260,000 and will be capped at £10,000.
The fourth development in the pension tax infrastructure relates to those who have drawn income from defined contribution schemes. The government will return the money purchase annual allowance back to the 2017 figure of £10,000 from where it currently stands at £4,000.
The MPAA, introduced in 2015 to coincide with pension freedoms, is the amount a person who has already begun drawing on their pension can pay back into their retirement pot each year without incurring a tax charge.
Shaw says those who have previously flexibly accessed pensions in the pandemic and cost of living crisis would have been stung with the MPAA.
But now these individuals will have wider flexibility to continue to contribute up to the revised allowance of £10,000, subject to their circumstances and income being suitable.
Shaw says: “Those affected who remain in employment may now be able to take advantage of employer auto-enrolment schemes, which may have been more challenging previously with the lower MPAA of £4,000.”
Verona Kenny, managing director of Intermediary at 7IM, adds: “The changes announced in the latest Budget are targeted at a far more specific demographic. That said, these changes are in no way less important for those being affected, as they provide further flexibility for the retirement planning journey.
“It’s fair to say this is a huge deal and represents an opportunity for the industry to demonstrate its value once again, and to innovate to provide the best possible solutions to ensure people achieve their retirement goals.”
Working for longer?
The new tax regime is being rolled out, Hunt says, to keep people in work for longer and to halt the exodus of senior NHS staff, caught by the various tax limits.
According to Rowley Turton’s Gallacher, while retirement decisions may be influenced by a variety of factors, including stress at work, the removal of the LTA may encourage high earners with large pension pots to continue working.
Other higher earners, particularly those in public sector defined benefit schemes, may also have retired early due to LTA and AA issues.
Charles Stanley’s Bell agrees: “With doctors, a significant benefit to them is their DB pension scheme and it makes up a solid portion of their total remuneration benefit.
“Experienced doctors on high salaries have been breaching the annual allowance and thus face a tax bill from their income, while also knowing that the contributions are going to be hit by the lifetime allowance when it comes to crystallising.
“This has made it far less attractive to stay working. It may not entice those who have tasted the joys of retirement back to work (although it may), but it may not force early retirement like the current situation. This isn’t just doctors, however. The same goes for high earners with DB schemes such as senior civil servants.”
Shaw also agrees the increased LTA will enhance the longevity of pension contributions without the concern of a potential LTA charge.
But she argues that with the increased AA, although this will reduce the risk of an AA charge and therefore make further pension contributions more feasible, it could have the opposite effect than desired in some circumstances.
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She explains: “It may enable quicker saving of pension pots and earlier retirement rather than keeping experienced individuals in work. The recent changes generally have a greater impact on higher earners and those with significant pensions in place rather than the majority of the employed population.”
For other high earners who would otherwise have retired, David Hearne, chartered financial planner at Financial Planning Partners, does not think it will keep many in work.
Hearne adds: “For those who did exceed the LTA, they often continued working and instead received additional pay in lieu of pension contributions.
“In some cases, this could actually help some higher earners retire early, particularly if they had thought they would face a LTA tax charge on their pension, but can now draw more income from their pension instead.”