The UK Government has today announced some significant changes to the pension tax allowances:
- the lifetime allowance will be abolished (which was set at £1.07m);
- the annual allowance has increased from £40,000 to £60,000;
- the money purchase allowance has increased from £4,000 to £10,000 (which applies to those who have already flexibly accessed money purchase pension benefits); and
- the tapered annual allowance for very high earners has been raised so that tapering commences at £260,000 (inclusive of employer pension contributions) and tapers to a minimum of £10,000 (rather than £4,000).
The tax free lump sum will remain frozen at £268,275 (25% of the current lifetime allowance) for those without protections.
Abolishing the lifetime allowance means that, for the first time, there is no overall cap on the pension benefits an individual can have from a UK tax-favoured pension plan. The abolition is to take effect from April 2024 but the lifetime allowance charge is to be disapplied from April 2023.
While the changes to the pension tax allowances are welcome, they do raise a number of practical issues for trustees, employers and pension providers to consider.
- As the total amount of pensions savings an individual can make has changed over the years, individuals have been able to apply to HMRC for certain protections against the impact of the lifetime allowance on their pension savings (for example, enhanced protection and fixed protection). If there is no lifetime allowance, these individuals should be able to make additional pension savings (with the protection only remaining in respect of the amount of tax free cash). This should make it easier for all parties involved in the provision and administration of pensions as they would no longer have to worry about the consequences of individuals with protection having additional pension savings.
- Some of the tax issues that arise on benefit correction and GMP equalisation exercises should now fall away, as there should be no concerns about causing individuals to exceed their lifetime allowance.
- Employees who already have pensions savings above or close to the current lifetime allowance or who have lifetime allowance protections may have opted out of pension provision and may now want to rejoin their employer’s scheme.
- Some employers may have offered cash in lieu of pension contributions for such employees. These employees may now ask to exchange the cash sum for pension contributions. Some may even have the right to opt-in to their employer’s scheme. Employers should check the employee’s contract terms to ensure they don’t have a contractual right to continue to receive the cash sum even though they have rejoined the pension scheme.
- Some employers have offered life assurance benefits under excepted group life schemes rather than registered pension schemes to avoid lifetime allowance charges applying to insured death benefits. The abolition of lifetime allowance charges from April 2023 will make this unnecessary.
- Some employers provide unfunded top-up arrangements to their registered pension schemes, with the unfunded arrangement providing the additional pension an employee would have received had their pension benefits in the registered scheme not been capped by the lifetime allowance and/or the annual allowance. Employers with these types of arrangements should check the rules to ensure the changes to the allowances flow through to the calculation of benefits as expected. Employers may also receive requests from members, who have already built up benefits in the unfunded arrangement, for part or all of those benefits to now be provided from the registered scheme. Employers will need to take advice on whether this is possible as it could give rise to issues under the rules governing the schemes and the provisions in the Pensions Act 1995 on the surrender of benefits.
- Employees may look to the employer for further information on what the changes mean for them. Employers may want to speak to their pension providers to see if they have any standard information they can provide to employees. The Government has also announced an expansion of its mid-life MOT review, which employers might want to direct eligible employees to.
- Schemes may cap some benefits by reference to the lifetime allowance which has now been removed. This may increase scheme liabilities.
- The higher annual allowance means there will be fewer requests for schemes to pay the annual allowance charge for members under "scheme pays" arrangements.
If you require any advice on the impact of the changes to the pension tax allowances, please speak to your usual Macfarlanes contact.