How to protect your pension lifetime allowance

A pension lifetime allowance is the limit of money you can save as pension benefits over your working life while you still enjoy the full tax benefits. You will pay a tax charge if you go over the set lifetime allowance at some point.

Simply put, the pension lifetime allowance (LTA) (LTA) is the maximum size that you can allow your pension pots to grow. In the UK, this limit is currently at £ 1,703,100. The LTA keeps changing from time to time and is calculated based on the consumer price index (CPI).

You should always take the help of a lifetime allowance advisor before making any decision.

It can be a bit hectic to calculate your LTA if you have any final salary pension since this kind of pension does not involve a fixed pot of money. This article can learn more about LTA and how it works.

What is the pension lifetime allowance charge?

In most cases, the government will levy a tax charge on any amount above the lifetime allowance. It means the more you exceed the LTA limit, the more you will be charged in the form of taxes.

If paid as a pension, this tax is 25% as a one-off. This means you will be taking a regular income through a drawdown plan, or you can buy an annuity. Sometimes it could be 55% which is paid in a lump sum.

The tax charge can be applied in two different ways or a combination. This depends on how you plan to take the excess benefits above your LTA.

How to protect your pension lifetime allowance 

You have to monitor your pensions closely if you want to avoid hefty tax charges on your pension savings. 

Monitor your savings to ensure you do not exceed the LTA required by the government. There is also another tactic that you can use. Apply for protection on the recent reductions on lifetime allowance.

This protection is only available to you on the condition that you were initially saving with a higher LTA in mind. There are two types of protection that you can apply for: Fixed Protection 2016 and Individual Protection 2016.

You can apply for Individual Protection 2016 if you have pensions over £ 1million as of 5 April 2016. In the case of Fixed Protection 2016, it fixes your lifetime allowance to £1.25, but you cannot contribute more to your pension. This is the best option you can go for if you no longer want to save more on your pension pot.  

Note that you can only apply for fixed protection of 2016 if your employer has not added to your pension since 5 April 2016 or you already have the Individual Protection 2014.

What will happen if you don’t take your pension?

If you don’t take your pension when you attain the age of 75 years, you will have to pay a tax charge of 25% on the excess of LTA, which applies to that point. Additionally, if you haven’t taken your pension and you die before the age of 75, all the death benefits that exceed the LTA at this point will have a tax charge on them. It will depend on how you choose to pay the tax. You have the option to pay an income tax of 25% or a lump sum tax of 55%.

When does the lifetime allowance apply?

Ideally, there is no fixed limit to how much you can save in your pension pot. However, checks will be carried out at some point to see if the value of your pension benefits exceeds the LTA. When you have your pension exceeding the set LTA, you will have to pay a tax charge.

These are some of the instances when checks are likely to be carried out:

  • When you have started to withdraw a defined benefit pension every month.
  • When you transfer your pension overseas before attaining the age of 75.
  • When you decide to take an income or lump sum from a defined contribution pension.
  • When you reach your 75th birthday, and you still have pensions in a drawdown that you have not touched.
  • If you die before the age of 75 and still have some pensions that you have not touched.

Final Thoughts 

Once you are above 75 years, no further checks are held against the lifetime Allowance. Whenever you take a pension from any scheme, the value is compared against the LTA to determine extra tax payments.

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