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In April 2016 the Lifetime Allowance was reduced to £1million – this is the limit set on the total value of accrued benefits from all your pension schemes which can be paid to you without triggering additional tax charges. You may recall we wrote about this subject in more detail previously which you can revisit here.
Many people with a Death in Service arrangement arranged via their employer and linked to a pension scheme will also be affected. This is a route commonly adopted by employers as a staff benefit, but it does mean that the value of the lump sum payment on death will also count towards the total value of pension benefits.
The Lifetime Allowance limit is set to rise again from April 2018 - this represents the first increase since 2010 - and is due to rise by the rate of the Consumer Price Index (CPI) to £1,030,000.
Any savings which remain in pension arrangements grow free of capital gains and income taxes, making them incentives to save, but higher and additional rate tax payers benefit the most as they can obtain additional tax relief at their higher rates and not just at the basic rate band.
Breaching the Lifetime Allowance will result in a tax charge on the amount taken in excess of the limit. If this is taken as a lump sum, the charge is 55%, but if taken as income instead the tax charge reduces to 25% but the income taken is still subject to Income Tax at their highest marginal rate. Therefore, if you become a lower rate tax payer at the point of withdrawal than you were previously, from a tax perspective the latter route would be more beneficial to you.
Depending upon your financial needs in retirement, the excess above the Lifetime Allowance could remain untouched in the pension which would enable you to pass the residual fund legitimately and tax-efficiently to your next generation. If death occurs before the age of 75, this excess would be taxed at 25% (as the excess is still above the Lifetime Allowance limit) and the remainder would be passed free of tax to any nominated beneficiaries. This is on the proviso that it is done within two years and that the pension arrangement allows this option on death - not all arrangements benefit from the rule changes which were introduced in April 2015.
Given the fact that generally speaking people are living longer, death is more likely to occur after the age of 75. The rules mean that the same 25% lifetime allowance tax charge is applied on the excess, but this would occur at the age of 75 and there will be no further Lifetime Allowance tests performed in the future. The nominated beneficiaries would be taxed at their marginal rate of income tax when they commence withdrawals. If planned correctly, this could be passed to non-taxpayers such as grandchildren and may even be used for school or university fee planning.
The rules surrounding pensions can be complex, so if after reading this article you would like to discuss your own pension arrangements you can contact an independent financial adviser at Armstrong Watson.
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