What is the pension lifetime allowance – and could it be brought back?

Deputy prime minister Angela Rayner proposed eight tax increases before the Spring Statement in March, submitting them to the Treasury in a “secret memo”, according to a recent report.

One of the proposals is understood to have focused on reinstating the pension lifetime allowance (LTA), which was scrapped by the former Conservative government. The allowance capped the amount you could save into a pension before incurring an additional tax charge of up to 55%.

Rayner’s memo argued that reinstating the allowance could generate up to £800 million in additional tax revenue, according to The Telegraph.

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Chancellor Rachel Reeves ultimately decided not to adopt any of these ideas, instead focusing on slashing the welfare budget in an effort to save £5 billion a year by the end of the decade.

She had already faced significant public backlash after announcing £40 billion worth of tax hikes in the 2024 Autumn Budget, including measures focused on employers’ National Insurance contributions, capital gains tax and inheritance tax.

While Reeves decided against raising taxes in the spring, high borrowing costs and weak economic growth may leave her with little option but to raise taxes when the next fiscal event comes around in the autumn. Could the LTA be in scope?

Will Labour reinstate the lifetime allowance?

Before the general election, the LTA was a political hot potato, with Labour initially indicating it would reinstate it before ultimately dropping the policy.

The latest memo leak will create nervousness among some diligent pension savers, but it is worth remembering that the suggestions made by Rayner are just that – suggestions.

It is normal practice for cabinet colleagues to have discussions about government policy, but that doesn’t mean any proposals necessarily have the chancellor’s endorsement. Taxation and spending decisions are ultimately down to Reeves. She decided not to implement Rayner’s suggestions in her Spring Statement.

“Westminster tussles are nothing new and we’re used to seeing private memos make their way into headlines. There’s no guarantee that any of this will ever see the light of day,” said Sarah Coles, head of personal finance at investment platform Hargreaves Lansdown.

The Treasury told MoneyWeek it doesn’t comment on leaks.

Reinstating the lifetime allowance would be complex

Reinstating the LTA would not be a straightforward process, which may act as a deterrent.

As pension consultancy Lane Clark & Peacock (LCP) has previously pointed out, the government would need to consider transitional arrangements for those who made savings decisions during the period when the cap was abolished. Penalising them retrospectively would be deemed unfair.

“More generally, would everyone start under a reintroduced LTA regime with the ‘LTA used up clock’ reset to zero? Or would the government – as seems likely – try to estimate how much of the LTA people might previously have used up and use this as a baseline for how much remaining LTA was available to them?,” LCP asked in a historic report on the issue.

It could be an administrative and operational nightmare.

Reinstating the cap would also resurrect old problems that had been put to bed. One of the reasons the cap was scrapped in the first place was to incentivise senior NHS doctors to remain in the workforce rather than retiring early or reducing their hours to avoid a pension tax charge.

Public sector workers often have generous defined benefit pension schemes, leaving some exposed to the tax charge. It seems unlikely that a Labour government would want to alienate this group of voters.

Reintroducing the lifetime allowance could deter pension saving

Another risk of reinstating the LTA is that it could deter pension saving. This would be counterproductive from the government’s point of view. Pensions are at the heart of its mission to boost economic growth through long-term investment.

“Reinstating the LTA would be a regressive move that disincentivises long-term saving, penalises prudent financial planning, and adds unnecessary complexity to an already convoluted pension system,” said Mike Stimpson, partner at wealth management firm Saltus.

Pension savers may also see any LTA reforms as a double-whammy, after Reeves previously announced that pensions would be brought inside the inheritance tax net from April 2027.

“Our latest Saltus Wealth Index shows that 47% of high-net-worth individuals now see tax rises as the single biggest threat to their wealth, up sharply from 22% six months before. Changes to inheritance tax were cited by 18% as a key reason for losing confidence in the Labour government, while 16% pointed to pension and threshold changes,” Stimpson added.

Several commentators have also pointed out that pensions are a long-term game, meaning savers need stability rather than constant policy changes.

“We seem to be playing a game of tax hokey cokey, where things are in and then they are out,” said Helen Morrissey, head of retirement analysis at Hargreaves Lansdown.

“This kind of confusion paralyses people’s ability to plan for the future. It puts them off making sensible decisions for fear of changes further down the line.

“People will have made choices around funding their pension based on the expectation that the lifetime allowance is no more, and these rumours will have caused real anxiety as to what to do next.”

How did the now-abolished lifetime allowance work?

The LTA was abolished in April 2024, but prior to that point, savers became liable for an additional tax charge once their pension pot exceeded a certain limit. This was £1,073,100 in the 2023/24 tax year.

The amount of tax that was charged depended on how you took your benefits.

If you took your money as a lump sum, you were charged 55% on the excess amount over the lifetime allowance. If you took your pension as income, either in the form of an annuity or income drawdown, you faced a 25% charge on the excess. This charge was in addition to any income tax, charged at your marginal rate.

A cap of more than £1 million might sound quite high, but it wasn’t just ultra-wealthy savers who were being impacted.

“If you had a pension of £1,073,100 and took 4% per year it would give you an income of just under £43,000 per year. This makes for a comfortable retirement but not extravagant, especially for those living in London and the South-East,” Morrissey said.