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Rich savers are warned {that a} new “catch within the small print” of reforms to the lifetime allowance might put them prone to overpaying tax on pension withdrawals.
The warning comes from consultants who’re urging people to make sure they maintain information of tax-free withdrawals from their pension pots or face the taxman guessing what they’ve taken.
The problem centres on the federal government’s resolution final yr to scrap the lifetime allowance, which set a £1.073mn restrict on what might be accrued in a pension tax free.
Coming into impact on April 6 2024, the transfer was welcomed by pension holders with bigger funds, however consultants mentioned a corresponding resolution to cap the quantity that may be taken tax free from a retirement fund had launched a brand new complication for savers.
The tax-free restrict was beforehand 25 per cent of the LTA. However this has subsequently been capped at £268,275 (the brand new lump sum allowance). It’ll nonetheless be potential to take lump sums above this quantity, however something above the allowance (LSA) will likely be handled as taxable earnings.
Consultants say many savers are unaware the onus is now on them to maintain observe of their LSA — a selected headache for individuals who have already taken tax-free lump sums below the outdated system.
“Previously there was no particular lifetime restrict on tax-free money so there was no have to maintain information as to how a lot you’ve got taken in whole,” mentioned Alasdair Mayes, associate at LCP, an adviser to pension schemes.
“With the brand new system coming in, HM Income & Customs didn’t wish to ignore the tax-free lump sums which individuals had already taken, and plan to attain these towards the newly created lump sum allowance.”
If savers don’t have information, HMRC will “estimate” how a lot has been taken.
“For many individuals this will likely be an inexpensive sufficient assumption, particularly for individuals who solely accessed their pension comparatively not too long ago. Nonetheless, for some individuals this assumption will likely be far an excessive amount of.”
Savers assumed by HMRC to have taken extra of their LSA than they really have threat dropping out on their tax-free entitlement.
“The issue with the default strategy is that it assumes that 25 per cent was taken as a tax-free lump sum each time advantages have been crystallised previous to April 6 2024, which can not have been the case,” mentioned Abrdn, a pension supplier, in a technical be aware.
It added that these in outlined profit schemes might not have needed to show their assured earnings right into a lump sum. Older outlined contribution schemes may have had assured annuity charges, so members may need aimed to make use of all of their fund to safe the best earnings.
“To handle this, HMRC permits people to use for a transitional tax-free quantity certificates (TTFAC), probably permitting 25 per cent tax-free money to be taken with future withdrawals the place in any other case there could be no tax-free money,” Abrdn mentioned.
Sir Steve Webb, a associate at LCP, added that the certificates was “properly value” exploring for savers who had taken lower than the utmost tax-free money from a earlier pension and have additional pensions nonetheless to take “which could push them over the brand new lump sum restrict.”
For these but to take their first pension, the system will likely be comparatively easy once they take a pension and withdraw some tax-free money. Their pension scheme or supplier will set out in writing how a lot of their LSA they’ve used up.
Savers have to maintain maintain of this info as they should inform the supplier of every other pension pots they take how a lot LSA they’ve used up.
“As ever, the golden rule is to maintain your entire paperwork,” mentioned Webb.
“The lifetime allowance might have gone away, however the necessity to maintain information of your entire pensions, together with ones you’ve taken prior to now, has not.”
