The new tax year has started and brought about changes to pension allowances. Chancellor Jeremy Hunt didn't increase or decrease the pension lifetime allowance - he scrapped it altogether. But what does it mean for your pension?
The Spring Budget had a range of pension-related measures. The latest pension allowance changes affect those who make annual pension contributions over:
- The standard annual allowance (AA)
- Money purchase annual allowance (MPAA)
- Tapered annual allowance (tapered AA)
The tweaks to the lifetime allowance (LTA) also mean every pensioner should get on top of these changes. For the Government, the hope is that the move incentivises people to reconsider their careers. They hope the changes will persuade people to stay employed and encourage the newly retired back to work.
Let’s examine the adjustments and how they might impact your future pension.
Lifetime allowance abolished
The lifetime allowance is the amount you can save for retirement without paying taxes. Anything above the cap meant you'd have to pay a 55% tax charge when withdrawing the excess. The £1.073 million cap wasn't hard to breach, and it hadn't kept up with inflation. Some estimates suggest the lifetime allowance would be worth £2.3 million if it had increased with inflation since its introduction in 2006.
Mr Hunt has now scrapped the lifetime allowance altogether. Since 6 April, workers have had no cap on the amount they can save for retirement without being taxed. Removing the LTA limit will make it easier for many workers to keep working - at least, that’s what the Government hopes!
However, you should pay attention to the tax-free lump sum you can take from your pension. The Spring Budget brought a cut to the lump sum. While you could previously withdraw 25% of your total pension pot tax-free, you’re now capped at 25% of the previous lifetime allowance limit of £1,073,100. This means you can now take a £268,275 tax-free lump sum out of your pension.
The change has received a mixed response. Critics point out that the amount is frozen, so inflation will keep eating away the amount you can withdraw. However, the removal of the LTA charge will provide tax benefits to higher and lower earners.
Raising the annual allowance
The changes also increased the annual tax-free allowance. The annual allowance refers to the maximum amount you can pay into a pension pot without incurring a tax bill. The increase in the allowance covers both employee and employer contributions.
So what is the current annual allowance? The allowance went up from £40,000 to £60,000. The news can benefit those playing catch up with their pension pot. For example, if you've missed contributions due to employment gaps or affordability, it might be a good time to see if you can increase them now.
It's also worth remembering you can take advantage of the carry-forward rules for pension payments. So you could pay £60,000 from this tax year and £40,000 from the last three years.
If you haven’t saved for a private pension before, read our guide to opening a pension after 50. You still have time to ensure you have a significant pension pot by the time you retire, especially if you take advantage of the new annual allowance.
Increasing the money purchase annual allowance
The Chancellor also announced an increase to the MPAA. The cap rose from £4,000 to £10,000 a year. The MPAA is the amount you can save into a pension once you’ve accessed it from age 55. Introduced in 2015, the measure prevented individuals from recycling their money into their pension savings. The limit was originally £10,000, so the latest change sees it back to its starting level.
The current cost of living crisis has left many reaching out for their pension pots. People might have unknowingly incurred a tax bill with the previous cap. The increase can help many basic-rate taxpayers, and it's also hoped it will incentivise people to keep working.
Changes to the tapered annual allowance
The current NHS crisis hasn't gone unnoticed, either. The spring has featured many strikes, with more in the pipeline for later this year. The increase in annual allowances for the higher-paid workers is a clear sign the Government is trying to encourage public sector employees to remain at work.
Previously those earning more than £240,000 saw their annual allowance decline from £40,000 to £4,000. The allowance has now increased to £10,000, with the adjusted income threshold increasing from £240,000 to £260,000.
Preparing your pension pots
Mr Hunt unveiled a range of pension changes in the Spring Budget, and more may be coming. The Chancellor spoke about his desire to change how British pension funds invest. Keeping an eye on these developments is vital to help prepare for your retirement.
If you haven’t yet started, now is an excellent time to start planning your retirement finances. Maximising your lifetime allowance can help guarantee your retirement days will be stress-free.