In 2006 we had what was laughably referred to as Pension Simplification. It did anything but simplify pensions, and since then we have had constant change to the system. However, at least it was though through and the legislation written in advance of the changes and checked and tested. Fast forward to 2024 and we are still living with the consequences of the failure to do this when Rishi Sunak announced in 2023 that he was scrapping the Lifetime Allowance.
As usual with a Budget there was talk about changes to pensions on the run up to the Spring 2023 Budget. In particular members of the NHS Pension Scheme were becoming increasingly vocal about the tax charges they faced, as high earning members of a Defined Benefit pension scheme, which they viewed as a disincentive to work. What wasn’t expected was what happened when the Chancellor said:
Some have also asked me to increase the Lifetime Allowance from its £1 million limit.
But I have decided not to do that.
Instead I will go further and abolish the Lifetime Allowance altogether.
This had not been briefed in advance; there had been no rumours about abolition; it seemed to come as a shock to everyone.
What made it seem even more like something that was a bit last minute and maybe a little unconsidered, was the fact that the abolition, so close to the end of the tax year, was going to have to be done in stages. Firstly the taxes that existed when benefits in excess of the Lifetime Allowance were paid out were removed (mostly), whilst the Allowance itself would be abolished at the end of the next tax year.
The actual changes to legislation that would be needed, if the Lifetime Allowance were to be abolished entirely, would follow at some point before the 2024/25 tax year. Meanwhile, if you wanted to know how things would work were you to die or wish to begin to draw benefits from your pensions, there were large numbers of people for whom the answer could only be “we don’t know yet but HMRC are working on it”.
What became clear was that the Lifetime Allowance was to be replaced by a Lump Sum Allowance (“LSA”) and a Lump Sum Death Benefit Allowance (“LSDBA”) in order to continue to restrict the amount that could be paid tax free from pensions. To keep things simple the figures were to be £268,275 for the LSA (25% of the old Lifetime Allowance) and £1,073,100 for the LSDBS (the old Lifetime Allowance).
Whilst the legislation was written and the abolition of the Lifetime Allowance went through as of 6th April 2024, unfortunately the answer to this is no.
One of the problems of announcing something without having first gone through the process of looking at the impact properly is that things can get missed. With pensions in particular, one issue has always been making sure that there is no negative impact on pensions that people have already built up or started to draw from and this can mean it gets very complicated.
One of the things that had to be considered was that people may have already drawn some of their pensions but still have pensions to draw.
Turning first to the LSA and payment of tax free cash when you start to draw a pension, the approach is to assume that you took 25% of any pensions already drawn. If you didn’t take 25%, for example because you wanted to maximise the guaranteed income of a company pension scheme, you could apply for a Transitional Tax Free Amount Certificate (“TTFAC”) to confirm how much you actually took and how much you had left of your Allowance.
To help out, HMRC produced a handy little online tool that asks a few questions and then tells you if it is worth applying for a TTFAC. Unfortunately, the answer isn’t always right.
Because the Lifetime Allowance has changed over the years, starting at £1,500,000, going up, going down, going down again, and again and again and then going up again, one person’s 25% can be different from another. So there are people who drew 25% previously but can have more and people who didn’t draw 25% but for whom a Certificate would mean they end up drawing less than they should do. Moral of the story, you can’t trust the tool.
Worse than this however is that there are known errors in the legislation around what you can take tax free from a pension in certain circumstances.
Some of the older pre-2006 pensions, for example, had the ability to pay more than 25% of the fund value as tax free cash. In 2006 this was protected, in a very complicated way. So some people can take more than 25% of the value of a pension, but in total should not be able to take more than £268,275.
I say “should not be able to” but at the moment, the way the legislation is written, if they had already taken £200,000 say and had a scheme specific entitlement to £200,000, they could have £400,000 paid out as tax free cash. Whoops !
What HMRC have said, if you’ve been keeping up to date with their Pension Schemes Newsletters (you have of course, who wouldn’t!) is that they will amend the legislation to correct this error and the amendment will be backdated to 6th April 2024. Which means that if you took more than the £268,275 you should expect to be asked to pay some tax on that extra money, despite believing that you were entitled to have that tax free when you took it. In this instance, HMRC helpfully suggest that you might want to delay drawing your tax free cash until they’ve managed to correct their errors.
If you took benefits from a pension before 6th April 2024 and want to be certain if you should apply for a TTFAC, if you have an entitlement to more than 25% tax free cash from an old pension, if you are considering moving your pension overseas, if you are dealing with the payment of a pension for someone who died before 6th April 2024, if you have one of the older Protections available in 2006, then you probably should take advice.
In some cases your pension provider will issue warnings in the paperwork that they send you where they are aware of errors in legislation, so make sure you read all that “bumpf” that comes through, but your best bet at the moment is to take great care and take advice if your situation isn’t simple.
The levels and bases of taxation, and reliefs from taxation, are subject to change and their value depends on the individual circumstances of the investor.
