The Chancellor has announced that the Pension Lifetime Allowance (LTA) will be frozen at £1,073,100 until April 2026. The LTA is the total amount that your pension fund can grow to before you have to pay a penalty tax of 25% on any excess.
Previously, the LTA had been scheduled to increase in line with CPI inflation every year.
Whilst a prolonged period of no inflationary increases will mean that more and more individuals may face LTA charges, it is important to remember that the LTA isn’t a ceiling on what can be saved into pensions.
Even if you are affected, there are often good reasons why you should continue saving, especially if stopping funding means losing out on contributions from your employer.
As a rule of thumb, you should only consider giving up saving into your pension if there is a better alternative.
If the net returns on pension savings (which could include your employer pension contributions) are still greater than saving alternatives elsewhere, then a LTA charge may be a price worth paying.
We receive numerous questions from clients about the impact of the LTA freeze and in this article we share these questions, and responses, with you.
- If my employer contributes to my pension, should I continue to accept the employer contributions (and make my obligatory matching contributions) even if I breach the LTA?
- Will I be better off taking up an employer’s offer of extra salary in exchange for pension contributions?
- Should I stop paying into my pension if it leads to a tax charge on savings in excess of the LTA?
- What if I have applied for Fixed LTA Protection?
Loss of employer funding
Employer pension contributions are essentially ‘free money’. Even if you suffer a LTA charge of 25% you are still better off because you are receiving 75% of something you would otherwise miss out on. Depending on how generous the employer matching contribution is, it is likely to be sensible to continue to contribute despite the fact that this will mean that 25% of your contributions will be lost.
Alternative employer remuneration package
Some employers are prepared to offer additional salary instead of making pension contributions. However, the salary offer, net of tax, may not be as beneficial as receiving the money into the pension (despite the 25% LTA charge) even factoring in the tax you would expect to pay on withdrawals in retirement. If you are an additional or higher rate taxpayer, and you expect to be able to draw money out of your pension at 20% tax in retirement, then you are likely to be better off receiving the employer pension contribution than the salary offer.
It is important to remember that (as the legislation currently stands) pension funds do not suffer inheritance tax. For those who expect to have a large estate on death, being able to shelter as much money as possible in a pension fund from inheritance tax is a real benefit. It is better to pay a 25% tax charge on any amount in excess of the LTA than 40% inheritance tax.
Another factor be taken into consideration when deciding whether or not to fund your pension in excess of the LTA in order to benefit from employer contributions is Fixed Protection.
If you have valid Fixed Protection, this will be lost if any new payments are paid into your pension.
This potential ‘cost’ should be taken into account before you make any decision. Do you re-start funding to benefit from your employer’s pension contributions or maintain the protection that you have built up in your pension within your higher (than the normal LTA limit) Fixed Protection limit?
With the LTA frozen at £1,073,100 for the next few years, re-starting pension funding could mean losing up to £176,900 of LTA protection for those who locked into a £1.25M Fixed LTA (Fixed Protection 2016).
However, on the assumption that the LTA will continue to increase at CPI after the freeze has ended (in April 2026), the normal LTA could exceed the Fixed Protection amount of £1.25M by around 2032/33. So much will depend on when you expect to take benefits from your pension, if you have Fixed Protection in place.
It’s only natural to want to limit tax charges of any kind, but it’s important to understand the knock on implications as the headline tax charge of 25% may not actually prove to be that bad compared to the alternatives. If you would like to discuss the interaction between making pension contributions and the lifetime allowance charge, please get in touch with your usual RG contact.