For those that are not already familiar with the lifetime allowance (LTA), it is the threshold the UK government has set for the total value of funds you can hold in all of your private and/or works pensions.
How much is the lifetime allowance?
As it stands, the current LTA is GBP 1,073,100.
Any amount you have in your pension above the LTA is subject to a tax charge.
So, when do clients need to start worrying about their pension lifetime allowance?
The value of the pension LTA has been falling in the last decade and recently Britain’s finance minister, Rishi Sunak, froze the LTA at its current rate until early 2026.
A pension pot that is currently around £500,000 In value and 15 years away from retirement, has the strong possibility of falling under the tax charge.
He stated that the LTA would remain at the existing level for 2020/21 rather than increasing in line with inflation.
This is the lowest amount the government could have increased it to under current rules.
It was expected to rise by GBP 5,800 in 2021/22 in line with the 0.5% annual increase in the Consumer Prices Index.
To put it into perspective, if the LTA allowance rose alongside inflation, it would increase by an additional GBP 88,900 by the end of the current Parliament, not a small number!
The decision has been broadly described as a stealth tax, for the way it is likely to affect pension savers who are near to their retirement.
Approaching your allowance?
While a pension pot of just over £1m may seem like a sizeable sum of money, as pensions gain from investment growth and compound interest, that figure can be much easier to reach than expected.
A pension pot that is currently around £500,000 In value and 15 years away from retirement, has the strong possibility of falling under the tax charge.
It is now more than ever, vital for individuals to evaluate their pension funds, as it can make a substantial difference to a client’s future financial plan.
Therefore, Individuals in their 40s and 50s that have built up a large pension pot, may well need to modify their current pension strategy to factor in the lifetime allowance freeze.
If hypothetically speaking, a 50-year-old with a £500,000 pension is putting away £500 a month, and achieving an 8% pa growth, they would reach the lifetime allowance by age 61.
This assumes the pension monies are invested 100% into the MSCI world index, which has returned an annualised return of 8.32 percent since 1987 (excluding any fees).
As a takeaway and considering Rishi Sunak decision to freeze the LTA, it is now more than ever, vital for individuals to evaluate their pension funds, as it can make a substantial difference to a client’s future financial plan.
Gaining a better understanding of your finances and talking to an expert is a great way to build your confidence to help you make the right decision
For more information on how you can better manage your pension, please get in touch with one of our financial planning experts here.
