Nothing’s wrong with pensions. The twin attractions of tax relief on pension contributions and tax-free income and capital growth provide a compelling reason to invest in pension funds.
However, the government does have a problem with pensions. And this presents complications that can have a substantial impact on you and the amount of money you ultimately enjoy in your golden retirement.
The cost to the government of allowing tax relief to continue is too high. In the 17/18 tax year, the total cost was £41 billion – £24.1 billion in income tax relief and £16.9 billion in National Insurance savings.
As costs are likely to escalate in coming years, something will have to give.
Previous Chancellors have failed to reduce the cost to the Treasury in any meaningful way.
Is it fair for a high earner to obtain tax relief at their highest rate of income tax, when a low-income worker can only obtain 20% tax relief?
It is demonstrably unfair.
Yet due to political pressure, successive Chancellors have failed to grasp the nettle.
Lack of political will has instead allowed these Chancellors to mess about with pensions to such an extent that the rules governing them are now incredibly complex. This presents a challenge not just for individuals, but also for advisors and trustees.
Let’s take a look at some of the rules:
Lifetime Allowance (LTA)
This is the maximum amount you can accumulate in pension savings without incurring additional tax penalties when you withdraw monies from your pension. The current LTA is £1,055,000. It is increased every year.
If you have no form of pension protection (meaning you have the right to a higher capital allowance), then at age 55 you can withdraw 25% of the LTA as tax-free cash. You can also receive an income from your pension – but remember, you will be taxed on this as earned income.
If you take further capital amounts then you will suffer a 55% tax rate.
This was introduced on 5 April 2016.
Normally, one can contribute £40,000 in pension contributions per financial year. However, Taper Relief means that for every £2 you earn over £150,000, you lose £1 of the amount you can contribute to pensions and still claim tax relief.
For many high earners, this means that the maximum they can contribute is £10,000.
Pensions were meant to be simple and straight-forward!
The complications have a negative impact on savers. They might put you off saving in pensions. Or lead you to spend time worrying, rather than focussing on how to invest your pension to best effect.
If you have seen recent headlines concerning the increase in waiting lists for operations, then you might be aware that Taper Relief rules are causing many GPs and consultants to stop taking on additional work. They claim that the tax and pension rules are inflexible (although at least they have the flexibility to choose not to work!)
Many of our clients with substantial salaries do not have that choice. They are caught between a rock and a hard place.
The present complications of pensions provide very real challenges for clients with large pension funds and high earnings. If this is you, you should seek advice as early as possible to ensure you have a strategy to maximise your pension and tax benefits, both now and for the years ahead.
We have the capabilities and experience to help you – contact my PA Ruth on 0118 934 7920 for a free and frank conversation today.
Because there’s always a way to do things better.
Past performance is not necessarily an indication of future returns, and future performance is not guaranteed.