Lifetime allowance for pension savings

The lifetime allowance is the limit on how much you can build up in pension benefits over your lifetime while still enjoying the full tax benefits. If you go over the allowance, you’ll generally pay a tax charge on the excess at certain times. Find out what the rules are and how you might be able to protect your pensions from being affected by this allowance.

How much is the lifetime allowance?

The lifetime allowance for most people is £1,073,100 in the tax year 2021/22.

The allowance applies to the total of all the pensions you have, including the value of pensions you have through:

  • any defined benefit (final salary or career average) schemes you belong to,
  • any savings you have in defined contribution pensions, but excluding your State Pension.

The standard lifetime allowance will be £1,073,100 until at least the tax year 2025/26.

When does it apply?

There’s no limit on how much you build up in pension benefits. But checks are carried out at certain times to see if the value of your pension benefits exceeds the lifetime allowance.

If you’ve built up more than the value of the lifetime allowance when a check is carried out, you might have to pay a tax charge.

Checks are typically carried out:

  • when you start drawing a defined benefit pension
  • when you take an income or lump sum from a defined contribution pension (see examples below)
  • if you transfer a pension overseas before age 75
  • if you reach your 75th birthday and have pension in drawdown or that you haven’t touched  
  • if you die before age 75 and have pensions you haven’t touched.

After age 75, there are generally no further checks against the lifetime allowance. 

Working out if this applies to you

Every time you start taking a pension from one of your schemes, its value is compared against your remaining lifetime allowance to see if there’s extra tax to pay.

You can work out whether you’re likely to be affected by adding up the expected value of your pensions to see if they might go over the lifetime allowance.

Be aware, though, that it is the value of your pensions at the point the checks are carried out. So you might need to take into account how the value of your pensions might change between now and the time you expect a check to be carried out.

For example, if you’re 55 now, but don’t expect to begin taking any money out until you’re 60, you need to consider if the value of your pensions might increase between now and then which will use up more or the lifetime allowance available to you.

You can work out the value of pensions differently depending on the type of scheme you’re in:

Defined benefit pension schemes

  • For defined benefit pension schemes, you normally calculate the total value by multiplying your expected annual pension by 20.
  • You also need to add the amount of any tax-free cash lump sum.

For example, if the annual pension you will receive is £15,000 a year and you will get a tax-free lump sum of £30,000, the value of that pension for lifetime allowance purposes is £330,000.  

Defined contribution pension schemes

  • For defined contribution pension schemes, including all personal pensions, the value will be the total amount in your pension pots.
  • If you’re in a defined contribution pension, there are a number of different ways in which you can use your pension pot when you retire. A test is carried out each time you access money from a pension pot you haven’t yet touched. For example, normally, you can take up to 25% of your pension pot as a tax-free lump sum. Most people will take all their tax-free lump sum in one go. They will then use the balance to buy a guaranteed income or set up a flexible retirement income. A check will therefore be carried out against the total value of the pension pot you intend to access. So, if the pension pot was £100,000 and you took 25% as tax-free lump sum, it’s the whole £100,000 that’s tested.
  • If you take a number of lump sums from your pension, known as an ‘UFPLS’, it’s the total value of the lump sum you withdraw which is tested rather than the whole pension pot. So, if the pension pot was £100,000 and you took a lump sum of £10,000 where 25% is tax-free and the other 75% is taxed as earnings, only the £10,000 would be tested at this point. The other £90,000 would be checked later.  
  • If you use your money to set up a flexible retirement income (known as pension drawdown), any money you still have in the pension when you reach age 75 will be checked again. If the money has grown so it is more than what you had when you first moved into pension drawdown, this will use up more of your lifetime allowance. 

Pensions already paying out to you

  • If you have taken any pension benefits before 6 April 2006, these will need to be taken into account the first time a check is carried out against the lifetime allowance after 6 April 2006. This will reduce your lifetime allowance available. 
  • For defined benefit schemes, you normally calculate the total value by multiplying your annual pension (at the time the check is carried out) by 25.  
  • If you have money in a capped drawdown pension, it is 80% of 25 times your current annual drawdown limit. If you have converted to a new style flexi-access drawdown pension the calculation can be more complex. You should contact your provider to confirm the amount.
  • If you have more than one pension, you will use up lifetime allowance in the order you take them. The lifetime allowance you’ll need to use in the calculation is the allowance in the tax year in which you take the pension income or the lump sum.
  • Certain tax-free lump sum benefits paid out to your survivors if you die before age 75 also use up lifetime allowance.
  • Whenever you start taking money from your pension, a statement from your scheme should tell you how much of your lifetime allowance you’re using up.

Charges if you exceed the lifetime allowance

If the total value of your pension benefits exceeds the lifetime allowance when a check is carried out, there will be tax to pay on the excess. This is called the lifetime allowance charge.

The way the charge applies depends on whether the excess is taken as a lump sum or as income.

Lump sums

If you take the excess as a lump sum, it’s taxed at 55%.

Your pension provider or administrator should deduct the tax and pay it to HMRC, paying the balance to you.

Income

If you keep the money in the pension so you can take an income from it – either flexibly, as a guaranteed income (annuity), or as a scheme pension – there’s a 25% tax charge.

This is on top of any income tax you pay on the income you receive.

For defined benefit pension schemes, your pension scheme might decide to pay the tax on your behalf and recover it from you by reducing your pension.

For defined contribution pension schemes, your pension scheme administrator should pay the 25% tax to HMRC out of your pension pot, leaving you with the remaining 75% to use towards your retirement income.

For example, if someone who pays tax at the higher rate had expected to get £1,000 a year as income but the 25% lifetime allowance charge reduced this to £750 a year. After Income Tax at 40%, the person would be left with £450 a year.

This means the lifetime allowance charge and Income Tax combined have reduced the income by 55% – the same as the lifetime allowance charge if the benefits had been taken as a lump sum instead of income.

Protecting your lifetime allowance

If you want to avoid the lifetime allowance charge it’s important to monitor the value of your pensions, and especially the value of changes to any defined benefit pensions as these can be surprisingly large.

You might also want to consider applying for protection if your pension savings are expected to exceed the lifetime allowance threshold.

There were and are protections that can help you avoid a tax charge by giving you a higher lifetime allowance.

You can check if you already have protection but you will need an account for HMRC online services.

If you don’t have an account you can create one.

There are still two protection schemes you can apply for – Individual Protection 2016 and Fixed Protection 2016. For more information about how to apply, see below.

Individual Protection 2016

Availability

Individual Protection 2016 (IP2016) is only available if the value of your pension savings on 5 April 2016 was over £1 million.

IP2016 is also available to people who already have protection under the Enhanced Protection, Fixed Protection 2012, Fixed Protection 2014 or Fixed Protection 2016 schemes.

IP2016 is not available to people who already have Primary Protection (whether active or dormant) or who have Individual Protection 2014.

Level of protection

This gives you a personal lifetime allowance equal to the value of your pensions on 5 April 2016, the day before the lower allowance was introduced – subject to a maximum of £1.25m.

The protection rules are complicated. And the ways the protection can be lost differ depending on whether your retirement income (including lump sums) is provided from a defined contribution or a defined benefit pension scheme.

You might want to get professional financial advice or speak to your pension provider or administrator when deciding whether to apply for protection and working out when and how to take benefits from your pension scheme.

Can you continue saving into a pension?

Yes, you can continue saving into a pension. But any pension savings above the level of your protected lifetime allowance will be liable for tax on the excess, called the lifetime allowance charge.

Fixed Protection 2016

Availability

There is no minimum pension value needed to apply for Fixed Protection 2016 (FP2016).

Unlike IP2016, FP2016 isn’t available to anyone that holds Primary Protection, Enhanced Protection or Fixed Protection 2012/2014.

Level of protection

This gives you a lifetime allowance of £1.25m, or the current lifetime allowance, whichever is higher. It is possible to lose this protection in certain circumstances. To avoid losing this protection, you must:

  • make sure you opt out of automatic enrolment quickly – you usually have a one-month window to do this and get your contribution refunded
  • not make any more payments into any defined contribution pension scheme after 5 April 2016 – if you do, you’ll automatically lose your protection and revert back to the current standard lifetime allowance limit
  • think carefully before continuing as an active member of a defined benefit scheme – opting out of active membership and becoming a deferred member significantly reduces the risk of losing your protection. You might want to discuss your options with a financial adviser.

Can you continue saving into a pension?

No, you’ll need to have stopped saving into a pension or building up benefits from 6 April 2016.

How to apply for these protections

You make the application online with HMRC on the GOV.UK website

If you’re unable to use the online service you can call the HMRC Pensions helpline for applications on 0300 123 1079.

There’s no application deadline to apply for these.

However, to rely on the protection, you must have applied and received a reference number from HMRC before your pension is tested against the lifetime allowance.

This is a complex area. If you think your pensions are likely to exceed the lifetime allowance, it’s a good idea to speak to a regulated financial adviser or get specialist tax advice.

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