Ignore the lifetime allowance and take the tax hit

There’s been a lot of wailing about the extra tax burden once you hit the pensions lifetime savings allowance. But it’s better to just carry on contributing and pay the tax, says Merryn Somerset Webb.

190131-lifetime-allowance

Do the sums - it's better to keep paying in to your pension

There's been some fuss recently about the miseries of those hitting their annual and lifetime pension limits (£40,000 tapering down to £10,000 for high earners and £1.03m respectively) and having to pay taxes as a result.

Most of the commentary around the issue has been about ways to avoid paying those taxes mostly by leaving schemes or cutting contributions. But there was a sudden outbreak of common sense in the papers at the weekend; in the Mail and in the Telegraph, Sally Hamilton and Laura Miller both asked whether paying the extra tax might be worth paying after all, paying tax on something usually suggests that you have something in the first place and at least some of the something left at the end.

Hamilton runs some numbers. A 50-year-old saver has a salary of £215,000 which gives them an annual allowance of only £10,000 and hopes to retire in ten years. Their employer pays 6% into their pension. They pay the same so £12,900 each and a total of £25,800. Whoops. £15,800 of the contribution ends up taxable at 45% a bill of £7,110. But this leaves £18,690 invested.

Say it grows at 4% a year in real terms, it will be worth £27,665 in a decade. So an effective personal contribution of only £7,095 (£12,900 after the tax relief) ends up being worth rather more. Staying in the scheme under circumstances such as this, as Hamilton quite rightly says, a "no brainer".

You can do similar sums with defined-benefit pensions and with the lifetime allowance for both types of pension, but in each case the key game-changer is your employer's contribution which is effectively (from the employee's point of view, anyway, free money). Leave the scheme and you lose that which rarely makes much sense (although you can of course attempt to attempt to negotiate a pay rise in lieu).

It's also worth noting, says Miller, that being inside a pension scheme often comes with extra benefits, such as life insurance and a pension for dependents should you die, and that the generosity of these schemes can change if you are no longer an active member of the scheme.

This is important stuff if you are over your allowances and are wondering quite what to do, reading this from Royal London will be a good start. You might also read this it makes an interesting case for ignoring the lifetime allowance completely if your plan is to pass your pension on to your heirs intact. This comes with the usual warning the lack of IHT on pension assets is such a generous part of the current pensions regime that we would be amazed if it lasted a generation.

Recommended

Does part of the £50bn lying forgotten in dormant accounts belong to you?
Personal finance

Does part of the £50bn lying forgotten in dormant accounts belong to you?

Around £50bn of our money is just sitting in dormant bank, savings and pension accounts. Make sure none of it's yours, says Ruth Jackson Kirby.
20 Apr 2021
What’s in Biden’s global corporation tax proposals?
Global Economy

What’s in Biden’s global corporation tax proposals?

US president Joe Biden’s administration recently proposed a universal model for taxing global companies. Saloni Sardana looks at what's involved.
13 Apr 2021
The minimum pension withdrawal age is set to rise – don’t get caught short
Pensions

The minimum pension withdrawal age is set to rise – don’t get caught short

From April 2028, the earliest age at which you can take money from your pension savings will rise to 57. It's vital that you understand the detail of …
13 Apr 2021
International tax competition is under threat – which stocks are most vulnerable?
Global Economy

International tax competition is under threat – which stocks are most vulnerable?

The idea of a global corporate tax regime is taking off, with the US proposing a sales tax on multinationals. John Stepek looks at which companies cou…
8 Apr 2021

Most Popular

China owns a lot more gold than it’s letting on – and here’s why
Gold

China owns a lot more gold than it’s letting on – and here’s why

In a world awash with money-printing, a currency backed by gold would have great credibility. And China – with designs on the yuan becoming the world’…
21 Apr 2021
“Joke” cryptocurrency dogecoin goes to the moon. What’s going on?
Bitcoin

“Joke” cryptocurrency dogecoin goes to the moon. What’s going on?

Dogecoin – a cryptocurrency created as a joke – has risen by more than 9,000% this year alone. Saloni Sardana looks at how something that began as an …
19 Apr 2021
House prices in the UK are still surging – here’s why it’ll probably continue
Property

House prices in the UK are still surging – here’s why it’ll probably continue

The latest UK house price data shows no letup in the country’s booming property market, with the biggest yearly rise since 2014. And there’s no end in…
22 Apr 2021