The pension lifetime allowance has been scrapped in a surprise announcement by the chancellor Jeremy Hunt.
As part of the Spring Budget, Hunt also hiked the £40,000 pension annual allowance to £60,000, its first increase since 2010.
The lifetime allowance - the total amount that workers can accumulate in their pension savings before paying extra tax - is currently £1,073,100.
Subscribe to MoneyWeek
Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE
Sign up to Money Morning
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
It had been rumoured that it would be increased to £1.5m or £1.8m as part of a move to get older workers, especially NHS doctors and consultants, back to work.
However, the chancellor went further in his inaugural Budget, abolishing it altogether. The lifetime allowance charge will be removed from April 2023, before the allowance is axed entirely from April 2024.
The annual allowance will be raised to £60,000 in April 2023.
The Treasury said: “Workers aged over 50 left the labour market in the greatest numbers during the Covid-19 pandemic. To encourage this group to extend their working lives, the government is increasing tax relief on pensions.
“These reforms will help ensure that high-skilled individuals such as NHS clinicians are not disincentivised from remaining in the workforce.”
It’s estimated that the changes to pension allowances will cost the government more than £4 billion over the next five years.
What does this mean for pension savers?
Savers with large pension pots, either in personal pensions like Sipps or generous final salary schemes, will be able to save significant amounts of money from the removal of the lifetime allowance.
Breaching the lifetime allowance incurs a 25% or 55% tax charge on the excess, depending on how you access the pension in retirement.
The lifetime allowance does not include the state pension, but does include all other pensions, such as workplace schemes, final salary pensions and Sipps.
The lifetime allowance was introduced in 2006, and had previously gone up with inflation each year, reaching £1.8m in 2010/2011.
However, in recent years it has been cut, and it was announced in the 2021 Budget that the lifetime allowance would be frozen at its current level until April 2026.
So Hunt’s announcement in the Spring Budget that the lifetime allowance would be completely scrapped marks a welcome departure from recent trends.
What about the annual pension allowances?
The chancellor also announced that the annual allowance would rise by 50%, to £60,000.
The annual allowance limits the total amount you can contribute to a pension each tax year - go above it and you face paying a tax charge. This covers personal contributions, employer contributions and tax relief.
Although it was not mentioned in Hunt’s Budget speech, the money purchase annual allowance (MPAA) will also increase from £4,000 to £10,000 from April 2023.
The MPAA applies to anyone who has already taken income from their pension. Once triggered, it reduces their annual allowance from £40,000 to just £4,000.
Tom Selby, head of retirement policy at the investment platform AJ Bell, says increasing the MPAA to £10,000 – the level it was originally introduced at in 2015 – is a “sensible, pragmatic step”. He adds: “The MPAA, which applies to those who flexibly access their private pension post-55, is set at such a low level it risks acting as a significant disincentive to work. Given the challenges facing the UK economy this is clearly undesirable, and so raising the MPAA is a sensible, pragmatic step.”
Jon Greer, head of retirement policy at Quilter, agrees: “Restoring the MPAA to £10,000 per annum might mean that people are happier to dip into their pension so they can reduce their workload but crucially still stay working, [so this announcement is a] major positive.”
Will the pension changes make much difference to workers and savers?
Lily Megson, policy director at retirement specialist My Pension Expert, said abolishing the lifetime allowance was “eye-catching”, but added that it “only affects the most affluent earners. Indeed, in the year leading up to April 2020, only 42,350 breached the allowance”.
However, Robert Salter, a director at the accountants Blick Rothenberg, said the removal of the lifetime allowance was welcome, as it will remove the punitive 55% tax charge that could be incurred by people who exceeded the lifetime allowance.
He added: “While the absolute number of people caught by the lifetime allowance was relatively small, such individuals were often possessing vital skills (such as GPs and NHS surgeons). While the change will not, I fear, encourage existing early retirees to return to work, it will hopefully encourage those GPs, surgeons and the like who were approaching the lifetime allowance to continue in employment over the coming years.”
-
The £1m pension problem: Why you may not get 25% tax-free cashThe pension lifetime allowance has been axed, but there's a sting in the tail. Savers with large pensions could see their tax-free cash shrunk to just 10%. We explain what’s happening and what action you should take
-
State pension triple lock at risk as cost balloonsThe cost of the state pension triple lock could be far higher than expected due to record wage growth. Will the government keep the policy in place in 2024?
-
Midlife MOT: what is it and who can get one?The government has launched an online midlife MOT to help older workers with financial planning, health guidance and career skills. But how does it work, who can get one and would you pass it?
-
Small pension pots to be consolidated, says DWPWorkplace pension schemes worth less than £1,000 that become “deferred” when a saver changes jobs will be consolidated under a new system
-
Retiring abroad: What to consider, from tax to pensionsThe high cost of living makes many people consider retiring abroad. We look at what you need to consider, including tax and pensions.
-
7 pension mistakes to avoid before you retireThese are the 7 pensions mistakes you could be making - and how to avoid them
-
How much state pension will I get?Advice Several factors determine how much state pension you'll get when you hit retirement age. Here's how to work out exactly what your entitlement is.
-
How much will it cost you to retire early?Analysis The pre-state pension income gap means couples may need an extra £136,000 if they want to retire at 60 – can you afford to retire early?
