The vast majority (82%) of financial advisers think the pension lifetime allowance (LTA) should be scrapped according to new research conducted by AJ Bell.
The top three reasons given by advisers for abolishing the LTA were because:
1. It is unnecessary to have in conjunction with an annual allowance – 68% of advisers
2. It penalises investment growth – 52% of advisers
3. The rules around protecting existing pension savings are too complex – 51% of advisers
The rules governing how people can protect existing pension savings that exceed the LTA are about to become even more complex. There are already five regimes in place to protect savings above the previous LTA levels and two more will come into effect in April 2016 when the LTA reduces further to £1m.
A total of seven levels of protection mean the layers of complexity are increasing and there are a number of important considerations for pension investors and financial planners:
1. The rules around the two new levels of protection for the reduced £1m LTA are not known yet but if they are anything like existing protection rules, any money purchase contributions made after 6 April 2016 will cause one version of the protection – fixed protection 2016 - to be lost. This is complicated further by the fact that it won’t be possible to apply for either of the new protections until Finance Bill 2016 is delivered which will be after April 2016. This will create a period of limbo for pension investors in this position.
This could result in people who were intending to rely on fixed protection 2016 not being able to take benefits for an undefined period after 6 April 2016, or face complications with the LTA. It may also increase the risk that someone will forget to stop making a contribution that will invalidate the fixed protection, because they won’t have obtained the relevant form of protection which would act as the reminder to stop paying in.
2. Investors with public sector final salary benefits may be presented with LTA challenges due to the lower allowance. These may be in respect of those final salary benefits or in respect of money purchase savings that they have accrued elsewhere, in a SIPP for example.
3. If investors take benefits this tax year, they can lock in the current LTA of £1.25m. However, their fund value will be tested again at age 75. The age-75 fund value can be reduced by drawing income from the scheme if it is in danger of breaching the LTA.
4. Watch out for auto-enrolment contributions. Investors must remember to opt out of their auto-enrolment scheme within a month if they don’t want to lose their protection. If they do lose protection, failure to notify HMRC within 90 days will result in a fine plus interest payments.
5. The LTA comes into play in other pensions calculations. Often overlooked, legislation says the maximum value of tax free cash is limited to 25% of the investor’s available LTA. This is based on the standard LTA. Therefore, a lower standard LTA of £1m will mean a lower maximum tax free cash amount.
Gareth James, head of technical resources at AJ Bell, comments:
The lifetime allowance for money purchase pensions now seems like one of the most unnecessary features of our pension system. Of the 18% of advisers that think the lifetime allowance should be maintained the reason given by all of them is because it is necessary to limit the cost of pensions to the Government. However, this can be just as easily achieved by controlling the annual allowance. Certainly the two in tandem seem to be trying to achieve the same thing.
Further complication is round the corner early next year when the lifetime allowance will be reduced to £1m but there will be no mechanism for people to apply for protection at that level until some unknown future date. This could just be an unintended outcome or maybe the Government knows this won’t be an issue because it intends to scrap the lifetime allowance before then. The autumn statement would be an ideal time to do this and would be welcomed by us and the majority of financial advisers.”