Exceeding Lifetime Allowance

gubernatorial

Hi all

I'm a working 29 year old who has finally started to think about his pension in the last year. I am taxed at 40% and therefore pension savings offers big tax saving incentives. Taking into account my employer's match, I am saving 18.5% of my gross salary each year into my pension. At this rate, I will just be over the current Lifetime Allowance if I retire at 55.

Clearly the tax advantages of a pension are somewhat eroded by if I am in excess of the Lifetime Allowance notwithstanding that I am below annual threshold. What is unclear to me though is whether it is still beneficial to save in excess of the LTA amount anyway? Assuming that I max out my ISAs in any event, the alternative options open to me are non-tax advantage deposit and/or investment accounts which offer much greater flexibility.
Could anyone help me workout how big an issue hitting the LTA is and whether it is worth saving beyond this amount?
Many thanks,

middlepuss

Who knows what the LTA will be when you retire, or what the penalty will be.

At the moment I think there's a 55% tax charge on any amount over the LTA, so unless you're putting in income that would otherwise be taxed at 60% (there's a post on another thread pointing out that income between £100K and £120K is effectively taxed at 60%) it does not look like a good idea to exceed the LTA.

hugheskevi

Firstly, if the plans to increase minimum pension age to State Pension Age less 10, your minimum pension age will probably be about 59. Those extra 4 years make a big difference due to compound returns even if you weren't contributing in those years.

I'd say you would be putting far too much faith in the stability of the pension system to base decisions on what the system might look like in 26 years time. The only (near) certainty is that it will not be how it looks today. The Lib Dems want to reduce the Lifetime Allowance to £1m for example.

If you exceed the Lifetime Allowance you will pay 55% tax on tax-free lump sums or 25% tax on income (plus income tax). It may still be worthwhile saving if you would otherwise miss out on employer contributions.

If you are exceeding the allowance purely due to personal pension contributions it would usually be better to put those contributions elsewhere, except possibly if you would be paying a marginal deduction rate of 60% income tax and expect to be a 40% tax-payer in retirement or if you were protecting child-benefit eligibility and such-like.

Personally in your position I'd be considering (as additions to ISA and pension saving) (i) larger investment in primary dwelling (ii) fully exploiting capital gains allowance (iii) Venture Capital Trusts to mitigate tax.

However, I would also be bearing in mind that over the next 26 years things will change, and one of those things may well be higher rate tax relief. As such, I'd very much value a bird in the hand (or a contribution in the pension) more than one in the bush, so would be wanting to get as much in as fast as possible to take advantage whilst it was on offer, planning to reduce contributions in future.

PensionTech

Agree with the above - there's just so little chance that the LTA will resemble anything current, or even exist, when you retire that it just isn't worth thinking about now. It's only been in place for 8 years and already it's changed direction completely and people are calling for reforms.

If things remain as they are, then I'd say savings in excess of the LTA are unlikely to be tax-efficient. They get taxed at 55% if taken as a lump sum and 25% if taken as a pension. But of course, those rates are just as subject to change as everything else.

Worry about it when you start getting close to the limit, I'd say.

gubernatorial

middlepuss wrote: »

Who knows what the LTA will be when you retire, or what the penalty will be.

At the moment I think there's a 55% tax charge on any amount over the LTA, so unless you're putting in income that would otherwise be taxed at 60% (there's a post on another thread pointing out that income between £100K and £120K is effectively taxed at 60%) it does not look like a good idea to exceed the LTA.

I agree that the LTA is completely up in the air and I was meant to acknowledge this in my OP. However, as we can't predict the future, I may as well plan my retirement based on the current regime.

Your point on tax rate is well made. However, the flip side is that we are allowed to grow our pension pot untaxed before the 55% applies and therefore is it a direct comparison? I'd be interested in know if there is any way to account for this mean considering any future LTA.

Could you point me in the direction of that thread? I'm not far off that point.

kidmugsy

In your shoes I'd save like billy-oh while the relief is still 40%. It could easily be 30% after the election.

Daniel54

gubernatorial wrote: »

I agree that the LTA is completely up in the air and I was meant to acknowledge this in my OP. However, as we can't predict the future, I may as well plan my retirement based on the current regime.

Based on the current regime,I would start thinking about not contributing to a pension once I got to about £ 1 million in the pension pot.

LTA is based on value at the point of crystallisation, so if you retire at 55 you would still have 20 years or more on top before you had to make the pension subject to tax

Realistically your best option is to continue contributing at 18.5% pa ,maximise tax relief and see where you are in 20 + years time

If any of us now near to retirement had planned our pension savings on the regime 25-30 years ago,we would have made some poor financial decisions

Worry about it when you need to,not now

gubernatorial

This is all interesting food for thought. Good to know that I should continue to save at a sensible rate and worry about finer details closer to the time.

It should hopefully be within my means to retire early and therefore I will need to continue putting some of my money into non-pension linked saving schemes e.g. ISAs.

Aegis

If it was me, I'd deliberately carry on and bust the lifetime allowance, given current knowledge. Why? Because if you're paying in 9.25% of your salary as a pension and getting that matched, then for every £2,000 you get in your pension you are only giving up £600 net (slightly less if it's salary sacrifice). Presently the lifetime allowance tax is 55%, therefore you would get back £900 for anything over the lifetime allowance, ignoring growth.

It's somewhat worse than getting back capital with an effective tax rate of 30% (25% tax free and 75% at 40%), but based on what we currently know, the employer match more than offsets the lifetime allowance charge.

Of course, the other suggestions in this thread are also good options, but if you're losing an employer's contribution for fear of worry about the lifetime allowance and that contribution is significant, it's definitely not worth doing unless you have the option to benefit from Individual Protection (i.e. you have already broken through the lifetime allowance).

jamesd

I suggest maximising your taking of 40% tax relief while it's available. With one of the two main parties having some desire to reduce that it makes sense to get it while you can and worry about the lifetime allowance when you're closer to it.

There will probably be some inflation-related increase in the LTA by the time you get closer to it. And perhaps along the way some reductions like those the Liberal Democrats are interested in doing, treating it as a tax on the "rich" - meaning those who might buy an inflation-linked annuity that would get them to about a higher rate income level.

gubernatorial

Aegis wrote: »

If it was me, I'd deliberately carry on and bust the lifetime allowance, given current knowledge. Why? Because if you're paying in 9.25% of your salary as a pension and getting that matched, then for every £2,000 you get in your pension you are only giving up £600 net (slightly less if it's salary sacrifice). Presently the lifetime allowance tax is 55%, therefore you would get back £900 for anything over the lifetime allowance, ignoring growth.

It's somewhat worse than getting back capital with an effective tax rate of 30% (25% tax free and 75% at 40%), but based on what we currently know, the employer match more than offsets the lifetime allowance charge.

Of course, the other suggestions in this thread are also good options, but if you're losing an employer's contribution for fear of worry about the lifetime allowance and that contribution is significant, it's definitely not worth doing unless you have the option to benefit from Individual Protection (i.e. you have already broken through the lifetime allowance).

Thanks for your reply. To be clear, I don't intend on forgoing my employers match for the reasons set out above. I am talking about increasing my contributions further to take advantage of tax relief. For your information, I contribute 10.5 for 7% match together with some NI top up due to salary sacrifice.