LTA: Lifetime Allowance Explained

Disclaimer: The information provided on this website is for informational purposes only and is not intended to be construed as financial advice. Always consult with a qualified and regulated financial adviser before making any investment or financial decisions.

A pension is a tax-efficient way to save for retirement. By investing through a pension, you pay less tax than with other savings methods. The UK government encourages this by offering tax advantages. But it also sets limits on how much tax-free benefit you can accumulate. This limit is known as the Lifetime Allowance (LTA). Understanding your LTA is crucial to ensure you maximise tax benefits and avoid unexpected charges.

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UK Pension Lifetime Allowance

What is the Lifetime Pension Allowance? The government charges you if your pension fund reaches or is projected to exceed the lifetime allowance when you withdraw money or turn 75. This is due to the Pension Lifetime Allowance. LTA limits the total amount you may save for retirement while still receiving full tax advantages. This applies to the value of all your pensions, except for your state pension.

The LTA is the total amount of tax-favoured pension funds that a member of a personal pension scheme can accumulate throughout their lifetime before incurring a Lifetime Allowance tax charge. HMRC tests your pension, and if the total benefits exceed the Lifetime Allowance, you must pay tax on the surplus.

If your pension benefits exceed the LTA when you access them, HMRC applies a Lifetime Allowance charge on the excess. You pay 55% if you take it as a lump sum. 25% if you receive it as income. Or a combination depending on how you withdraw the excess.

For example, when you withdraw a lump sum or income from your pension fund, transfer internationally, or reach age 75 with unused pension benefits, you'll usually have to pay a tax charge on the excess. You can pay the excess as a lump sum at a 55% tax rate. You can also leave it in your pension fund to receive income taxed at 25%.

Lifetime Allowance Calculator

Regularly reviewing the value of your pensions is the best way to keep track of whether you could exceed the lifetime allowance. Your pension value is automatically evaluated when you reach the age of 75. You may anticipate how the value of your pensions will fluctuate over time and prepare appropriately to see whether it exceeds the lifetime allowance.

Your pension plan type determines how HMRC evaluates your pensions. For Defined Contribution pensions, assessors calculate the total value of your pension fund to determine its worth. Defined Benefit plans, which offer a retirement income depending on your salary and length of service with your company, are more complicated.

There is a common formula for calculating the overall pension value for lifetime allowances for these pensions. Multiply your estimated yearly pension by 20 and add this figure to the amount of any tax-free cash lump payment from that pension.

When you reach 75 with unused pension benefits or assets in drawdown, HMRC automatically tests your pension value against the lifetime allowance. If your benefits exceed the allowance, you must pay the applicable taxes.

Members of the pension scheme use up some of their LTA when they collect benefits from HMRC registered pension schemes. If you take extra benefits later, HMRC assesses the new benefits against your remaining LTA percentage. To calculate LTA usage, the Finance Act 219 requires you to index the previous crystallised amount at the same rate as the standard LTA. Use the following formula to do this:

Relevant Untaxed Amount x (Current Standard Lifetime Allowance/Previous Standard Lifetime Allowance)

Relevant Untaxed Amount, is the prior BCE amount. Current Standard Lifetime Allowance is Standard LTA today. Previous Standard Lifetime Allowance is LTA at the time of the previous BCE.

Pension Lifetime Allowance 2021/22

The government increased the LTA annually by the Consumer Prices Index (CPI) from 2018/19 to 2020/21. However, from 2021/22 to 2025/26, the government suspended the increases, keeping the lifetime allowance at £1.073m, and it will remain fixed until 2026.

Beneficiary Pension Lifetime Allowance

If you pass away before age 75, HMRC automatically tests your pension in the same way. In this circumstance, your beneficiaries can decide how they want to take the pension money, and their option will decide the tax rate that will be levied. Regardless of the amount of your pension plan, your beneficiaries are responsible for paying the levy to HMRC.

Why Do You Need To Get Advice From A Financial Adviser?

Managing your lifetime allowance is not as simple as keeping your pension pot below £1.073 million. Each time you withdraw funds, HMRC tests that withdrawal against your remaining lifetime allowance. For example, if you build up £500,000 and take out £100,000, HMRC measures that withdrawal against your lifetime allowance at the time.

As your pension grows, HMRC continues to test it whenever you trigger a benefit crystallisation event or when you turn 75. Staying under the allowance at one point does not guarantee you will remain within it later. Instead, you need to track how much of your allowance you have already used.

Calculating your pension value, monitoring growth, and planning for the impact of the lifetime allowance can be highly complex. In many cases, you may need to run multiple scenarios and calculations to avoid unexpected charges.

Rather than facing this alone, you can rely on an independent financial adviser. At Cameron James, our experienced IFAs help you understand your pension value, manage your allowance effectively, and choose the most reliable retirement strategies. If you are approaching age 55 or beyond, now is the right time to act.

Book your free consultation today with Cameron James and take control of your pension planning, lifetime allowance, and retirement future.


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