Life Time Allowance - Big Questions!

dgswk

Hi - just looking for some views of others who may already be in a similar / same position as I hope to be in a few years. I've just turned 47 and dont really want to have to work much past 55-57. I say have to - I probably will, but I just want the choice.

I'm employed, 20 years with the same company, with an old defined benefit scheme which closed 10 years or so back. I also have a current defined contribution scheme, into which I then consolidated all of my little pots from old employers, and into which I put away as much as I can every month for the 40% tax break benefit. I manage fund choice myself and generally see a very healthy return, which if my good fortune continues may see me knocking on the door of LTA in a few years time. Maybe £200k worth of defined benefit pot and £800k (potential) of defined contribution pot at today's money.

Which begs the question, can anyone simply(!) explain how LTA actually works in practice???

Examples....

If someone had say a £1.2m pot (at today's money) at the date they chose to retire, would, at that moment in time, tax be due at 55% on the difference between the fund value and the LTA in force at that time, ie. £145k x 55%? So maybe take a lump sum to cover it, then job done, crack on, re-invest, knowing you wont have to pay it again.

Or, do you start taking drawdown, say £40k per year at 'normal tax rules / rates', maybe a £100k tax free lump sum along the way, and xx years later, you hit the LTA (whatever that is calculated to be at the time) and then start paying the increased 55% rate of tax on your drawdowns.

But in the meantime, the pot carries on and probably earns say another £40-50k over the year, effectively funding next years drawdown with a bit left for RPI/CPI. The fund arguably never depletes as long as you dont go and buy a Ferrari and is maintained in line with inflation.

So then what happens to the cash left in your pot when you pass away with regard LTA? Can my kids have it and spend it subject to inheritance tax rules - they are not going to get LTA'd then inheritance taxed are they?

Much as I love taking the 40% tax break on pension savings, and I cannot recommend enough the future benefits of starting early and putting plenty aside, I'm thinking at what point do I actually back off my additional contributions, with my employer offering share options instead of contributions?

Of all the tax rules I've ever encountered, LTA seems the most horrendously complex with crystallisation points here there and everywhere.

Last thing I'm prepared to do is manage my money really carefully, see a good return on my investment, to see 55% of it disappear. I dont lead a lavish lifestyle - I've worked and saved hard to be in a position where I just want to maintain my income (less mortgage) through retirement and be able to leave my kids / grandkids set for life.

Cheers

anselld

As you rightly say, it is complicated, but you have a few years to learn (and for rules to change).

Basically, once you reach LTA there are very few scenarios where it is worthwhile making further contributions. And no, you cannot "pay up and move on" because once your LTA is used up it ceases to be beneficial to contribute. Furthermore, you are not out of the woods with your previous contributions because there is another test at age 75.

The only time I know of where it makes sense to contribute beyond LTA is if your employer is making some match funded contributions for you. It may be then that the employer contributions outweigh the LTA penalty.

As the current rules stand it is probably best to contribute until the LTA is reached and then crystallise everything and draw down the future growth to avoid the 75 test. The complication in your position is that the only way to control the DB crystallisation to retire or to transfer the benefits out to DC (which is another separate minefield).

lisyloo

Despite the tax benefits I would suggest having some money elsewhere e.g. ISA (you may already have this).
One issue you face is that you might not be able to take your money until 57 . D.C. age is due to rise to 57 in 2028 so it’s touch and go for you depending on which month they do it, but it’s certainly a possibility you should consider. A cliff edge in Jan 2028 seems very unfair to me but I certainly wouldn’t rule it out.

If you were desperate to leave your job or suffering Ill health at say 54 or 55 then it would be a really good idea to have a few years living costs elsewhere so you have the flexibility to retire early should you wish.

Personally I’m disincentivised from paying higher rate tax in retirement.
That would restrict drawdown to £50k (in today’s terms) but £41k after SPA.

https://www.aegon.co.uk/support/faq/pension-technical/Benefit-crystallisation-event3.html

My understanding for the DC is that initially you’d hit
BCE1 and BCE6
Then at age 75 you’d hit BCE5a

So let’s say you had £1 million.
If you took the £250k lump sum and moved £750k into drawdown you have £1 million against LTA and not get checked again until 75.
You could then drawdown £50k (£41k) after SP and not pay higher rate tax (assuming not other income).
At age 75 the BCE1 of £750k is already covered, so you’d only use up more LTA if your fund is greater than £750k
I.e. your growth has been more than your drawdown.

It seems sensible to me to stop a little before £1 million If you’re keen not to pay higher rate tax.

Have you worked out what you need/want to live off?
I am 51 and want to retire at 55.
This year I categorised all of my spending e.g. car, holidays, gifts. Household , savings etc.
I had about 7 or 8 categories.
It didn’t actually take that long to look through credit card and bank statements each month and just totally up each category.
I then split my spending into essential, discretionary e.g. new car, holidays, and extravagant e.g. long haul holidays (or whatever you’re into).

I don’t mind sharing my person figures which are
Essential - 8432
Discretionary - 23336
Extravagant - 27836

I then calculated gross (tax but no NI) as 29931
And then pot size of £748,271 (excluding SP) at SWR of 4% (which some may say is too high but depends on your other assets and your willingness to eat into capital etc.)

It’s a well travelled path to work out what you want in retirement and you may well find that LTA isn’t going to be an issue as in my case.

You could quickly estimate your wants to get a quick answer but it’s more accurate to record your actual spending over a period of time.

It’s a really good idea to get plan but When it gets closer I’m pretty sure most of us will find events - could be career, health or family will dictate what happens.
For example an inheritance or redundancy might make you stop a bit earlier as could an illness or disability.

Flexibility is great to have.
I’m pretty sure I can drawdown at 55 and I’m a little too old to hit the changes, but you need to factor in changes in the rules I.e. the known unknowns.
A potential rise in DC age has been muted for some time and is likely, it’s just a case of when and how (will there be a cliff edge or a graduation).

Albermarle

After you have read the Aegon link above , here is another one :
https://adviser.royallondon.com/technical-central/pensions/benefit-options/lifetime-allowance/

I am also in a similar position but a few years on, and one or two years from stopping work .
I thought I might get away with it, but the very good returns in 2019 have brought the possibility of LTA charges closer more quickly than expected.
After reading a few other threads about it and some googled articles, it seems it is a situation where some proper financial advice could help, even if you ( and me ) have not used them so far.
Apart from that I picked up a few snippets:
1) Do not get too worried about going over the LTA by a relatively small amount , you only pay the penalties above the LTA , so in the great scheme of your retirement finances it is not such a huge deal.. The slogan is ' don't let the tax tail wag the investment dog' In other words do not let tax issues become your number one focus .
2) Do not give up employer contributions , even if it means having to contribute yourself still.
3) Not much point being in high risk/high growth investments in your pension, if you have a potential LTA issue. These are best to be concentrated outside the pension.

Then there are other strategies such as crystallising early ( as mentioned already ) especially if the markets take a dip but this is where you start straying into maybe needing some more professional help.

zagfles

anselld wrote: »

As you rightly say, it is complicated, but you have a few years to learn (and for rules to change).

Basically, once you reach LTA there are very few scenarios where it is worthwhile making further contributions. And no, you cannot "pay up and move on" because once your LTA is used up it ceases to be beneficial to contribute. Furthermore, you are not out of the woods with your previous contributions because there is another test at age 75.

The only time I know of where it makes sense to contribute beyond LTA is if your employer is making some match funded contributions for you. It may be then that the employer contributions outweigh the LTA penalty.

As the current rules stand it is probably best to contribute until the LTA is reached and then crystallise everything and draw down the future growth to avoid the 75 test. The complication in your position is that the only way to control the DB crystallisation to retire or to transfer the benefits out to DC (which is another separate minefield).

Going a bit over the LTA can be sensible if you're getting 40% tax relief on contributions, plus perhaps more through employer conts, NI savings if sal sac and other stuff like preserving child ben, student loans, marriage allowance etc.

The thing to avoid is paying higher rate tax in drawdown. Because the LTA charge for a basic rate taxpayer is effectively 40%, not 55% (25% LTA charge compounded with 20% tax makes an effective 40% tax).

If you crystallise a DC pot at the LTA (£1055k), and are using the supposedly "safe" drawdown rate of 4%, then after the TFLS you have a £791k pot, and will drawdown a bit under £32k a year. Even after the state pension is added, you'll have loads of spare basic rate band left.

So if you go a bit over the LTA, say by £100k, you can crystallise and pay the 25% LTA charge from the pot leaving £75k in drawdown, and drawdown over a number of years keeping within the basic rate band, so you'll get £60k out.

If you get 40%+ tax relief on the way in and pay 40% on the way out, it's equal to or better than an ISA.

Of course if you have a DB pension as well, or other income, they'll change the equation. Or if your investments do really well such that it's impossible to get money out within the basic rate band or ending up paying the LTA on growth at 75.

It's also probably best to make sure you pay the LTA charge on DC rather than DB.

Mick70

My understanding is if above LTA , you should still pay into your pension providing your employer is matching or paying in more , after that ceiling is reached and employer won’t pay in then you shouldn’t also

Remember the LTA goes up each year so should be a lot higher when you are 75 .
Also in hands of future political decisions regarding LTA, tax free % and retirement ages

cfw1994

Albermarle wrote: »

After you have read the Aegon link above , here is another one :
https://adviser.royallondon.com/technical-central/pensions/benefit-options/lifetime-allowance/

I am also in a similar position but a few years on, and one or two years from stopping work .
I thought I might get away with it, but the very good returns in 2019 have brought the possibility of LTA charges closer more quickly than expected.
After reading a few other threads about it and some googled articles, it seems it is a situation where some proper financial advice could help, even if you ( and me ) have not used them so far.
Apart from that I picked up a few snippets:
1) Do not get too worried about going over the LTA by a relatively small amount , you only pay the penalties above the LTA , so in the great scheme of your retirement finances it is not such a huge deal.. The slogan is ' don't let the tax tail wag the investment dog' In other words do not let tax issues become your number one focus .
2) Do not give up employer contributions , even if it means having to contribute yourself still.
3) Not much point being in high risk/high growth investments in your pension, if you have a potential LTA issue. These are best to be concentrated outside the pension.

Then there are other strategies such as crystallising early ( as mentioned already ) especially if the markets take a dip but this is where you start straying into maybe needing some more professional help.

I agree with not letting the tail wag the dog....& defo agree with always getting company contributions!

On being in high risk/growth when close to LTA: well, if one retired with 15-20 years to the LTA test at 75, one might still want some decent growth to drawdown, but yes, the point is fair, have higher risk things outside that pot.

but.....on that last comment: I am also at the "crystallising phase" to avoid/minimise LTA.....a dip in the markets could make me contribute a bit more for a bit longer, but I'm not sure any professionals know when (if!) that might happen in the next 6-12+ months!

Have considered getting IFA help, but with quite a few decent sources of useful information (for those interested, of course!), I sense I would just be paying money for hearing the obvious.

Maybe I am overly confident in my amateur guesses :rotfl:
I did crystallise half my chunk in Oct, & that drawdown side has risen 5% since then, so I *feel* I'm on the right track.....

Albermarle

but.....on that last comment: I am also at the "crystallising phase" to avoid/minimise LTA.....a dip in the markets could make me contribute a bit more for a bit longer

I remember reading that if there was a downturn in the markets and your pension pot shrunk , then that could be a good time to crystallise your pot , particularly as it would extract the 25% TFC at a lower value/% of LTA.
Then of course you would have to find a home for it .

Remember the LTA goes up each year so should be a lot higher when you are 75

But it only increases with inflation , as will your pot hopefully , so in real terms will be the same at 75 as now .

Maybe £200k worth of defined benefit pot

Do you mean you have been offered £200K to transfer out or that it will be around £10K pa and you have X 20 to get the LTA contribution ?

gm0

The only other aspect not covered in replies to date is the pension protection topic.

There have been a series of fixed and individual protection certificates associated with each legislation change to the LTA value (cuts). Essentially this let you lock in an existing personal LTA value (not indexed by CPI so they will disappear eventually) - but in most cases this comes at the cost of freezing contributions (saving elsewhere in a different (ISA) tax wrapper). The version available (if any) at the time you decide to switch investment tracks away from pension could be relevant - again depending upon what reforms come down the track on pension saving and tax relief. Mechanics are the same as standard LTA just the value is different.

craig1912

Mick70 wrote: »

My understanding is if above LTA , you should still pay into your pension providing your employer is matching or paying in more , after that ceiling is reached and employer won’t pay in then you shouldn’t also

Remember the LTA goes up each year so should be a lot higher when you are 75 .
Also in hands of future political decisions regarding LTA, tax free % and retirement ages

Yep- I had 8% of my money but 14% employer money going into mine when I knew i’d be potentially over the LTA. Took ER a year ago.

Mick70

craig1912 wrote: »

Yep- I had 8% of my money but 14% employer money going into mine when I knew i’d be potentially over the LTA. Took ER a year ago.

What is ER ?
Well there are far more clued up posters on this forum than me , but would imagine you should still be paying in the required percentage to get the employer 14% in . Any more is best of out into as ISA or just enjoy the extra cash ?

In my scenario well above LTA , I have been paying in 13% and employer 16% but will now reduce mine now to 8% which still triggers the employer 16%. Any more just seems pointless