Will You Exceed Your Pension Tax Allowance?

Will You Exceed Your Pension Tax Allowance?
Red Sea Egypt by Julian Cohen. Why?

Over 360,000 people, many of whom have SIPPs, could face a tax bill when Government pension tax allowance changes take effect in 2014

Read The Information Below To See If You’re Affected By The Pension Tax Allowance Changes

The total amount of money you can hold in your pension fund during your lifetime is being reduced to £1.25 million in April 2014.  It’s being cut from its current level of £1.5 million.

Information from Standard Life reveals that 360,000 people could be affected by this reduction in the pension tax allowance.  Around 30,000 of them will be hit instantly as they already exceed this limit.

Don’t Dismiss These Figures As Being Irrelevant To You

If the value of your SIPP is much lower than the above levels, you’d be forgiven for ignoring this issue.  But it could be a costly mistake.

Standard Life predicts this lower limit will impact people with long-standing company pensions.  In particular, people with ‘defined benefit’ or ‘final salary’ pensions that pay out a percentage of salary when you retire.  It could also affect you if your earnings are likely to be much higher in the future.

If you’re set to receive a final salary pension of £60,000 a year, you're likely to be affected by the reduced pension tax allowance.  The problem is that you have to add up all your employer and personal pensions to ensure you don’t exceed the limit.

How The Pension Tax Allowance Cut Works

By way of example, if you’re 10 years from retirement and your total pension fund from all sources amounts to £700,000, you’ll exceed your pension tax allowance if your money grows at 7% per year.  That’s assuming you stop saving now.  If you continue to contribute, you’ll go way over the limit.

Here’s a key point.  It’s not just your pension fund growth that matters.  It’s also the amount of money that goes into your pensions by way of your contributions and those of your employer.

It Could Raise A Fortune For HMRC

If you exceed the pension tax allowance limit, you face a 55% tax charge on any lump sum you take from your pension scheme.  Instead of taking a lump sum, if you draw out the benefit entirely as income, you’ll be hit with a 25% surcharge on top of your highest rate of Income Tax.

Alistair Hardie of Standard Life said: ‘Savers might be years away from retirement, but if they have saved a fair amount in various pension funds, they could be near the danger zone.’

The Time To Do Something About This Is NOW

It’s well worth totting up the value of your pensions.  Take a look at your earning prospects over the coming years.  And work out roughly how large your fund will be when you hope to retire.

If it’s likely you’ll be affected, there are two ways of locking into the £1.5 million rate once it expires on 5 April 2014.

Fixed Protection

This is for you if your pension fund is currently below the new limit of £1.25 million, but could be higher than £1.5 million after 2014.  If will fix the limit at the higher level, but no longer will you be able to contribute to a workplace pension scheme. 

Individual Protection

This is for you if your pension fund will be greater than £1.25 million by 5 April 2014. You will be able to contribute to your workplace pension up to the £1.5 million limit.

There is a third option.  You could continue to pay into your pensions and pay the tax charge.  But this is likely only to make sense if you receive a sizeable contribution from your employer.

There Are More Cuts Coming

Not only is the Lifetime Allowance being reduced, the amount you can save in a pension scheme is being slashed from £50,000 per year to £40,000 per year. Just a few years ago, you were allowed to save up to £255,000 per year, though not surprisingly very few people did!

It all adds up to a programme that’s raising a lot of extra tax from HMRC.

Further information about this is available in this pension tax allowance report from HMRC. 

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That's our opinion.  Not just because AJ Bell was the first company to offer an online SIPP.  Nor that it's received many prestigious awards.  And not even because the wife of SIPPclub's Founder has an AJ Bell SIPP.  It's because it's one of the most competitive stockmarket SIPPs on the market. 

Over time, charges can wipe out a huge part of your fund.  We like AJ Bell because there are no set-up costs.  If you hold passive funds, which is our preference, or shares, investment trusts, EFTs, gilts or bonds, you pay one small fixed fee no matter how large your fund.  And when you come to draw your benefits either as occasional drawdown or UFPLS payments, there's a small charge for the whole year no matter how many times you access your money (many SIPP and SSAS providers charge more than this for each payment).  However, you should always compare charges in detail, because AJ Bell could be more expensive than other providers, depending on the type of stockmarket assets you hold.

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