Retirement savers face bigger risks of falling foul of pension tax charges following a Budget move by the chancellor to freeze the lifetime allowance for the next five years.
On Tuesday, Rishi Sunak announced that the lifetime allowance (LTA), which governs how much can be saved in a pension before tax charges apply, would remain at its current level of £1.073m until 2025/26.
The move comes three years after the government said the LTA would rise each year to keep pace with inflation. A scheduled increase to £1.078m in April has been cancelled.
The Treasury estimates the freeze will raise £990m by 2025/26 in two ways. This can occur as savers will stop contributing to pensions from their incomes and therefore not claim tax relief, but others who may not otherwise have exceeded the LTA will have to pay tax.
“Freezing the lifetime allowance is an under-the-radar revenue raiser,” said Nathan Long, senior analyst at Hargreaves Lansdown, the investment manager.
“With Treasury pennies stretched, it’s understandable all angles are being explored, but this won’t just hit very high earners, committed and consistent pension savers risk running into the limit too, and being punished for their efforts to save for the future.”
Pension experts said that while the LTA freeze would impact top and high earners most, salaried professionals, such as IT engineers, management consultants and pilots, were at increased risk of falling foul of the LTA threshold.
Any savings above the LTA threshold when a pension pot is taken out could land the saver with tax charges of 25 per cent to 55 per cent, depending whether the money is taken as income or a lump sum.
“A freeze to the LTA this year may only affect a relatively modest number of taxpayers,” said John Tait, retirement advice specialist at Standard Life, a pension provider.
“But each year the allowance doesn’t keep pace with inflation is a step closer to LTA charges affecting ordinary pension savers. While a pension pot of £1m may feel like a significant sum of money it has to last throughout retirement, and more and more are saving in excess of this into their pension.”
A key group likely to be hit are medium and high earners in the public sector who were building substantial “defined benefit” or final salary pensions.
“The lifetime allowance in these schemes is an annual pension amount of one 20th of the ‘cash’ limit, or £53,655 a year,” said Steven Cameron, director at Aegon, a pensions provider. “Many doctors and headteachers are likely to be caught.”
Cameron added: “Freezing the limit means more individuals, many of whom are not particularly wealthy, have a heightened risk of exceeding the limit and facing a hefty tax charge.”
Claire Trott, head of pensions strategy with St James’s Place, a wealth management firm, said the move was effectively a tax on good investment decisions.
“This is really disappointing news for [future] pensioners, whose savings will hopefully continue to grow, but as a result they’ll end up paying more back to the taxman,” said Trott.
Meanwhile, the British Medical Association, the doctors’ union, warned that the tax measure would drive more senior NHS doctors out of the health service, as they were at heightened risk of being hit by the LTA.
“This is going to have a massive detrimental impact on the NHS just at the time when doctors are needed the most,” said Vishal Sharma, chair of the BMA Pensions Committee.
“This is complete lunacy especially as it will not generate additional much revenue — people will retire sooner to not pay the tax.”