Are you aware of the new UK Government’s sneaky way to attack your pension pot?

Back in 2006, there was a major shake up of the UK pension market. A-Day as it was called, was set to make the new world of pensions in the UK ‘simple’. A-Day was the brainchild of the current Labour government and was announced in 2004, and its primary aim was to make things ‘simple’ going forward. Now if you know anything about UK pensions, nothing is ‘simple’.

There were many changes that A-Day brought to the market, but the biggest was undoubtedly the introduction of a lifetime limit on the size of your pension pot. When introduced, this Lifetime Allowance (LTA) was set at £1.5m and was subsequently increased to £1.8m, in an attempt to get more of us saving towards their retirement.

After a government change in 2010, the LTA was reduced to £1.5m, and then again to £1.25m in 2014, and it is on the move yet again, and there are no prizes for guessing which direction!

From April, the lifetime allowance will fall from £1.25 million to £1 million.

So what does this actually mean for me?

Well, in short, if your pension fund is greater than £1m when you reach retirement, you will face a tax charge on what we call the ‘excess’, ie anything above £1m.

Did you know, the excess charge ranges between 25%-55% depending on how you take it? That’s right, the government will charge you between 25% -55% on the amount your pension pot is above £1m.

On the face of it, we would all opt for the 25% tax charge, compared to the other, however it is very ‘smoke and mirrors’. The effective rate of tax on both is 55% (read on to explain why).

What we need to consider is how this tax charge is applied. In short, there are going to be two methods, income and as a lump sum.

The tax charges are as follows:

  • Lump sum – any amount over your LTA that you take as a lump sum is taxed at 55%.
  • Regular income/drawdown – if you decide that you want to take income from your excess then the lifetime allowance charge is 25%. A very important point to note here though is, this charge is applied on top of any income tax that you may pay. If you’re a higher rate tax-payer when you drawdown the income, then the 25% LTA charge combined with your 40% income tax works out as 55%.

Consider if your pension pot is currently worth £1.5m. Once the new LTA limit comes in, you would have £500,000 sitting in the excess zone. Should you retire with £500,000 in the excess zone, you would face somewhere in the region of £275,000 in tax charges.

Yes that’s right, by doing the right thing in saving for your retirement, you could face very large tax charges.

Now is the time to seek professional advice on reviewing your pension pot, as failure to act may result in unnecessary tax charges being applied to your pension pot.

How would you feel if when you get to retirement you found out that the UK government was taking hundreds of thousands of pounds in tax charges?

I am a Pension Specialist working with UK expat clients across the globe helping them plan for their retirement in the most tax efficient way, especially when the lifetime allowance is on a downward trend, and may just continue to tumble.