With the reduction in the lifetime allowance from £1.8m to £1.5m from 6 April 2012 - a cut of some 17% - thousands of pension investors could be hit by a 55% tax charge on benefits over this amount unless they take urgent steps to manage their situation.
“People have just a few months to optimise their pension position. If they miss the 6th April deadline, they could lose out to the tune of tens of thousands of pounds,” said Mike Fosberry, director at Smith & Williamson, the accountancy and investment management group.
Mike warns: “This is something of a ticking time-bomb for younger high earners. Their pension savings could be well below the £1.5m mark just now, but it is quite possible that someone in their 30s or 40s could find they have amassed savings of over £1.5m by the age of 55 – the earliest age at which people can draw benefits – and so have to pay the 55% tax rate on benefits. It may therefore be a good move for them to elect for fixed protection now.”
“However, my fear is that many will overlook this opportunity to protect their savings and sleep walk into very high tax charges in later life. Remember, the pension savings of those in their 30s and 40s have many more years to grow. "
"Recent market volatility may also temporarily depress the value of individuals' pension investments so there is a real danger that people underestimate the potential value of their pension and do nothing now - and end up paying the price later on."
HMRC has recently created a particular form which individuals who register for 'fixed protection' must complete. They should request form APSS227 or download it from http://www.hmrc.gov.uk/pensionschemes/apss227.pdf
However, Mike warns that before registering for protection, individuals should review their total pension investments: “People will need to collect information on all their pension investments which have typically been built up through various providers and different employers. This is likely to take a few months as each pension provider needs to be contacted separately. Individuals really need to start the process now.”
Mike highlights three key ways through which people can take advantage of the current higher lifetime allowance:
“Firstly, people can still elect for ‘fixed protection’ at £1.8m and thereby avoid the 55% tax rate. However, very importantly, individuals will have to stop contributions or cease to accrue further benefits in their employer’s scheme from 5 April 2012. This will need advance planning as many may need to re-negotiate employment contracts.”
“A second option – but only for those aged 55 or more - is to start drawing benefits before 6 April 2012, while the current £1.8m lifetime allowance is still in place.”
“A third decision relates to making extra contributions before taking up one of the above options. Given that people can now put in £50,000 per year and carry contributions forward or backwards for three years (if they have unused contribution allowances for those years), this can prove very valuable.”
He adds: “ Unfortunately, we have no idea when the £1.5m threshold will be reviewed again, so for planning purposes we have to assume it will not be reviewed for some time. As a result, we expect more and more people will be drawn gradually into the 55% tax net.”
For people in final salary (defined benefit) schemes, the value of the pension is multiplied by 20 and any additional tax free pension commencement lump sum is added to establish the value of the total pension pot.
