Pension savers ‘hit hard’ as annual allowance tax rules cost you over £23,000 – what to do

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HMRC released official statistics yesterday concerning the annual allowance (AA) and lifetime allowance (LTA) for pensions. Analysis of these figures showed retirees are being “hit hard” by various tax rules, including the money purchase annual allowance (MPAA).

The Government’s data covered a variety of pension figures for the 2018/19 tax year and in examining the data, Canada Life found:

  • In 2018 to 2019, 34,220 taxpayers reported pension contributions exceeding their AA through Self Assessment, paying an average charge of £23,874
  • The total value of contributions reported as exceeding the AA was £817million in 2018 to 2019, decreasing from £912million in 2017 to 2018 and £584million in 2016 to 2017
  • The total value of AA charges reported by schemes in 2018 to 2019 was £209 million, a 71 percent increase from £122million in 2017 to 2018.
  • In 2018 to 2019, 7,130 LTA charges were reported by schemes through AFT returns. The total value of LTA charges reported by schemes in 2018 to 2019 was £283 million, a six percent increase from £269 million in 2017 to 2018.
  • 80 percent of savers choose to pay a 25 percent LTA charge, preferring to leave the money in the pension scheme, rather than withdraw as a lump sum (a 55 percent charge)
  • Tapered annual allowance (introduced in 2016) will continue to hit high earners in tax year 2019/20 as the adjusted income threshold remained at £150,000 in that year. As the taper threshold was increased significantly from April 2020 it should reduce the impact of the AA for some individuals in more recent tax years but we will need to await future statistics to show by how much

Andrew Tully, a Technical Director at Canada Life, commented on these statistics: “[The] figures from HMRC reveal that the impact of the money purchase annual allowance and tapered annual allowance hit savers hard in the 2019/20 tax year.

“While the value of contributions exceeding the limit has actually dropped slightly, the cost of charges has increased by 71 percent. Jumping to £209million in 2018/19 from £122million the previous year.

“Even something which sounds as simple as an annual allowance is complicated by the fact we have three different limits – a standard allowance, a very low allowance for those who have flexibly accessed their benefits, and a fiendishly complicated position which reduces the limit for higher earners.

“This complexity means many individuals may be unintentionally caught by the AA, although this should ease in more recent tax years due to the rise in the tapered annual allowance threshold.”

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Mr Tully continued: “We have also seen a six percent increase in savers being caught out by the Lifetime Allowance, with the tax now bringing in £283million compared to £269million the previous tax year.

“Interestingly most savers choose to pay the tax charge of 25 percent and retain the money in the pension, rather than opt for the rather more salty lump sum charge of 55 percent.

“The Lifetime Allowance has since been frozen for the next five years, meaning more and more people will get caught by this relatively arbitrary figure, with the Treasury expecting to raise an additional £1billion in tax. “This measure simply sends the wrong signal to savers trying to do the right thing. It also penalises good investment performance. Instead of constant tweaks we need stability to give people confidence to save for the long-term.

“This is a complicated area of pension planning and it is all too easy to get caught out, so anyone concerned about breaching either of these limits should consult a professional financial adviser.”

These issues may not be the only ones facing retirees over the coming months, with recent reports detailing Rishi Sunak may completely shake up the pension landscape.

The Chancellor froze LTA rates in the March Budget but according to reported Whitehall leaks, Mr Sunak and other Treasury officials may raid pension savings to cover the cost of coronavirus.

Some experts feared the current rate could be lowered from just over £1million to between £800-900,000.

This could result in more people than ever facing the tax.

More recently, reports emerged that the Government may funnel tens of billions of pounds of pension money into infrastructure projects and start-up firms.

This, according to The Mail on Sunday, would happen through a Long Term Asset Fund that would see workplace pension funds invest a portion of employees’ savings into the new fund through a “default” investment option.

Nigel Green, the CEO and founder of deVere Group, branded the proposal “complete madness” and it “underscores ministers’ seeming willingness to delve into people’s pension pots every which way.”

Mr Green explained: “It appears there are no measures that ministers are not willing to consider to raid people’s pensions. They are, it would appear, plotting another potential grab on hard-earned retirement savings”

While it would be possible to opt-out of the Government’s Long Term Asset Fund, Mr Green warned the majority of workers would contribute as a result of enrolling in the default scheme.

Mr Green concluded: “This is likely to result in billions of pounds automatically running into the fund. How the government can suggest this is a suitable investment as a ‘default’ fund for all workplace pensions is a mystery to me.

“By its nature, the LTAF will presumably be investing in less liquid and more risky assets. Most pension members simply trust the default fund to be the best option into which they should invest.

“Workplace pensions are auto-enrolment schemes for UK workers who don’t have other options through their employer. In effect, they are suggesting that the LTAF should be a core holding for the least sophisticated pension investor in the UK. This is complete madness in my view.

“Everyone can understand the pressing, legitimate need to invest in projects to rebuild the economy following the havoc wreaked by the pandemic, but tapping workplace pensions is not the way to do it.”

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