Pension saving is something many people will do years before their retirement to ensure they have enough. However, individuals could end up penalised if they save “too much”, as there are rules surrounding limits and charges. The Pension Lifetime Allowance (LTA) sets a limit on how much a person can build up in pension benefits over their lifetime while still enjoying tax benefits.
For example, someone in a defined benefit scheme could be unaware their pension is valued at 20 times their annual pension for LTA purposes – which means an annual pension of £30,000, for example, is actually worth £600,000 for the purposes of testing it against the allowance.
In addition, many others could think they are a long way off, but might be closer to breaching the limit than they initially believe.
WEALTH at work cited an example of someone aged 45 with a pension fund of £400,000 and a salary of £50,000 who saves five percent into a pension growing three percent a year.
If they were to also receive employer contributions at 10 percent, it would be possible for them to breach the LTA limit by the age of 65.
A third group of people who could be affected are those who believe themselves to be protected, but are not such as those who opt out of their workplace pension.
The group explained: “This is because of how the rules around auto-enrolment work, meaning that employees are re-enrolled every three years. Just one month’s contribution could invalidate protection previously granted, without someone even realising.
“Responsible employers will inform employees whom they plan to re-enrol, so that they’re aware that pension contributions will be deducted from their monthly pay.”
There are, however, steps a person can take in order to mitigate their chances of exceeding the Lifetime Allowance.
One such option is to look at other methods of saving towards retirement, such as an ISA or workplace savings scheme.
This could still help Britons to progress their money towards retirement, while avoiding the possibility of a tax snatch.
Retiring early is also posited as a way to avoid the LTA, taking a lower annual income to help a person reduce the value of their pension below the Lifetime Allowance.
However, this is not something which should be taken lightly, and Britons are encouraged to seek financial advice before embarking upon this path.
Finally, individuals may wish to withdraw tax-free cash from their pension, as it could reduce the potential second LTA charge at age 75.
But people should be aware that cash withdrawn from a pension will once again form part of their estate for the purposes of inheritance tax (IHT).