Few of us saw the radical changes to the lifetime allowance (LTA) announced in March coming.
Chancellor Jeremy Hunt’s Spring Budget gave us all hope of further pension simplification when it announced the LTA would be abolished from the start of the 2024/2025 tax year.
Couple this with the immediate scrapping of the LTA charge for 2023/2024 and beyond, and the pension landscape looked promising.
And then the government released its consultation papers.
On 18 July, it published 41 pages of proposed legislative changes around the implementation of the LTA abolishment. With a little over six months until the LTA is removed, there is plenty of work left to do on how the new legislation will be implemented and what this change means for clients.
Will all death benefits paid from uncrystallised funds when a client dies before the age of 75 now be subject to income tax?
The current proposal is that the LTA will be replaced with two new allowances. The lump sum allowance and the lump sum death benefit allowance will both come into force in April next year.
In principle, the new changes offer people the opportunity to save more for their retirement, of course making sure to stay within the annual allowance (and including money purchase annual allowance and tapered annual allowance).
For context, the current LTA is £1,073,100 and the current tax-free cash allowance is 25% of this, or £268,275. These figures will continue to be important come next April in respect of the two new allowances being introduced. Bear in mind that for those clients who benefit from LTA or lump sum protections, such as the primary, fixed or individual protections, these figures will be higher.
To not deliver this landmark change would be catastrophic for the Conservatives, particularly as we near a general election
Also included in the draft legislation is the intended abolishment of other LTA enhancement factors for benefit crystallisation events (BCE) that occur post-April next year.
As a reminder, LTA enhancement factors are a way of protecting benefits built up in situations such as a non-UK pension tax environment, or via pension sharing orders.
It’s proposed that any existing pension protections are left unaffected by the removal of the LTA.
There are glaring questions that arise from the government’s plans. What is going to happen to those people who have already accessed their tax-free cash? This BCE would have been tested against the LTA, so how will any further tax-free cash be measured for those affected?
Perhaps more pivotally, what should we make of the one line in the policy paper that says: “BCEs 5C and 5D […] will no longer be excluded from marginal rate income tax under ITEPA (Income Tax (Earnings and Pensions) Act 2003), with effect from 6 April 2024”.
Ambiguity is helping no one and the sooner the government can firm up the plans for next April, the better
Does this mean all death benefits paid from uncrystallised funds when a client dies before the age of 75 will now be subject to income tax when paid from the pension?
One of the primary benefits of saving within a pension is that it is tax efficient and that clients can flexibly pass on their pension wealth when they die. If this does change, as suggested in the draft legislation, that represents a significant change to pensions and the government can expect to see a backlash from the industry.
That said, the mechanics for changing this will also be challenging, which begs the question as to whether it is the government’s intention to make pension death benefits subject to income tax and, if so, whether they will decide to put this into effect at the same time as removing the LTA.
The current holes in the draft legislation need attention, and providers need clear guidance on how to implement the changes to minimise disruption to pension savers. To not deliver this landmark change to pensions would be catastrophic for the Conservative government, particularly as we near a general election.
To deliver it incorrectly could be confusing for pension savers and advisers. How do advisers provide recommendations to their clients, and how do clients plan for their retirement, if the goal posts keep moving?
Ambiguity is helping no one and the sooner the government can firm up the plans for next April, the better.
Caitlin Southall is pension technical manager at Curtis Banks
