What is a Lifetime Allowance? 

 March 31, 2022

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A bag with money and the word Pension and calculator. Pension payments. Help from the state. Accumulation and saving money. Accumulation of pension contributions / enrichment capital.

When anybody is drawing a pension, they need to be aware of the lifetime allowance. It is the maximum amount of pension an employee can build up without paying tax on it.

There’s no limit on the amount of money an employee can earn via their pension scheme. But, there are limits to how much money they can get through it before lifetime allowance tax needs to be paid out.

Spending beyond the tax-free level will vary across schemes and may depend on

A) Their level of income

B) Their employer’s plan

C) Personal considerations, such as inheritance tax exemptions

This article will look at the lifetime allowance, why people should care about it, and how it can impact someone’s pension.

How much is the UK lifetime allowance?

The lifetime allowance is a measure determined by the government to prevent people from piling up too many pensions. It is based on the capital value.

A standard formula is implemented so that people can use it to assess whether they may be liable for a tax charge.

Formula:

(Annual pension amount x 20) + lump sum = capital value

In the tax year 2021/22, the lifetime allowance for most people is £1,073,100, and it has been frozen at this level until the tax year 2025/26.

The allowance applies to all an individual’s pensions, including defined benefit pensions and defined contribution pensions (excluding state pensions).

When is the UK lifetime allowance applicable?

There’s no limit to how much an individual can contribute toward a pension plan each year. But from time to time, the government looks at the tally to make sure that it doesn’t go above the maximum given amount.

If the individual reaches this cap during an inspection period, he might have to prepare himself to pay a fee.

  • A pension check will generally be conducted at either of the following times:
  • If an individual draws from a defined benefit pension plan,
  • If an individual draws an amount of money from a defined contribution pension,
  • If there is an international transfer of pension money by people below the age of 75 years,
  • If an individual dies before the age of 75.
  • There is usually no check conducted after a person crosses 75 years of age.

How to find if you’re applicable for a UK lifetime allowance or not?

Whenever someone starts taking a pension from one of the schemes they are part of, the value of that pension is compared to their remaining lifetime allowance. This helps to see if there is any extra tax to pay.

It’s worth noting that this affects anyone with more than one pension. It doesn’t matter even if they’ve once or twice transferred into a new scheme.

It’s important for everyone to remember that what matters here is the value of their pensions at the point checks are done, not when they were paid in.

People need to make sure they track how much money they are putting into their pensions. Especially those who have transferred several times need to be careful. They should not add up all their pensions and assume they will be safe when it comes time for them to start taking money out.

Level of protection against a UK lifetime allowance

Anybody can apply for protection against a lifetime allowance. That being said, the protection rules are a little hard to understand. It depends on whether an individual has involvement in a defined benefit pension scheme or a defined contribution scheme.

If someone is not sure if they might exceed personal lifetime allowance limits or how this could impact their retirement planning, they don’t have to worry.

It could be worth taking independent advice from an appropriately qualified financial adviser.

You may also like: Have You Started To Consider Your Retirement? Here Are 10 Tips For Retirement Planning

Image source: Shutterstock.com

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