Lifetime allowance - frequently asked questions
Lifetime allowance and annual allowances changes for 2023/24 and from 2024/25
In the Budget on 15 March 2023, the Government announced several changes to the annual allowance, lifetime allowance and tax-free cash. This was followed by the Finance (No.2) Act 2023 which put some of these changes into legislation from 6 April 2023. Other changes announced in the Budget will not take effect until the 2024/25 tax year, and further draft legislation is currently out for consultation on these changes.
Your questions answered
Has the lifetime allowance been abolished?
The government intends on completely removing the lifetime allowance from 6 April 2024.
On 6 April 2023 the lifetime allowance charge was removed, but the lifetime allowance limit itself will remain until 6 April 2024. This means lifetime allowance checks will continue until 5 April 2024. The lifetime allowance tax charge no longer applies, instead if the excess over the lifetime allowance is taken as a lump sum it will be taxed through PAYE at the individual's marginal rate of income tax.
Before 6 April 2023 if the excess benefits were taken as a lump sum, a 55% lifetime allowance charge was deducted. If the benefits were taken as a retirement income a 25% lifetime allowance charge was deducted, Income Tax was also deducted when the income was paid.
No tax-free cash is a payable from benefits in excess of the lifetime allowance.
What is the lifetime allowance?
Since 6 April 2023 the lifetime allowance charge has been removed. Any retirement benefit taken as a lump sum in excess of the lifetime allowance is taxed at the recipient’s marginal rate of income tax.
Before 6 April 2023 a lifetime allowance charge was applied to benefits in excess of the lifetime allowance at either 55% for lump sums or 25% if paid as income.
It was possible to apply for a form of lifetime allowance protection - primary, enhanced, fixed protection or individual protection.
Rates & Factors - Standard Lifetime Allowance
HMRC Pensions Tax Manual - PTM081000: Essential principles of the lifetime allowance
How are defined benefit scheme's benefits valued against the lifetime allowance?
Defined benefit schemes can only offer a scheme pension. A scheme pension involves paying a pension for life out of the scheme assets or buying an annuity out of the scheme assets.
The value of the annual amount of pension promised by the scheme is multiplied by a standard valuation factor of 20:1. Where some of the pension is commuted for a lump sum, it is the pension after commutation that is multiplied by the standard valuation factor of 20:1. This factor includes an allowance for dependant's benefits up to the level of the individual's pension at date of death and for annual increases of 5%. Any defined benefit scheme that provides better increases can apply to HM Revenue and Customs for a scheme specific valuation factor which can be higher than 20:1.
Lump sums (including those provided by commutation) are valued using a factor of 1:1 and are added to the above value.
HMRC Pensions Tax Manual - PTM088620:A non-standard relevant valuation factor
How are money purchase and cash benefit plans benefits valued when testing against the standard lifetime allowance?
If an individual chooses to take their benefits using drawdown, the valuation basis is based on the actual fund value (market value of the assets) used to secure either:
- flexi-access drawdown, or
- short-term annuities
If the individual chooses a secured income, the valuation basis used depends on the option chosen when benefits are crystallised. These are:
- Lifetime annuity - The benefits are valued on the basis of the actual fund value used to secure the lifetime annuity.
- Scheme pension - A scheme pension involves paying a pension for life out of the scheme assets or buying an annuity out of the scheme assets. The value of the annual amount of pension promised by the scheme is multiplied by a standard valuation factor of 20:1. This factor includes an allowance for dependants' benefits up to the level of the individual's pension at date of death and for annual increases of 5%. Any scheme that provides better levels of dependants' pensions or increases can apply to HMRC for a scheme specific valuation factor which can be higher than 20:1.
Tax-free cash is valued based on a valuation factor of 1:1 and added to the value above.
HMRC Pensions Tax Manual - PTM088620: A non-standard relevant valuation factor
What happens to the lifetime allowance when benefits are taken in stages?
If an individual decides to take their benefits in stages, a percentage of the lifetime allowance is used up each time they take benefits.
HMRC Pensions Tax Manual - PTM081000: Operation of the lifetime allowance over time
Before 6 April 2023, how could you avoid the lifetime allowance charge?
Individuals who had benefit values on 6 April 2006 of over £1.5 million were able to apply for primary protection to reduce or eliminate the chance a lifetime allowance charge will apply. Their pre-6 April 2006 tax-free cash could also be protected in certain circumstances. It’s no longer possible to apply for primary protection.
Enhanced protection completely eliminated the risk of a lifetime allowance charge, and in certain circumstances, protected the pre-6 April 2006 tax-free cash entitlement. Enhanced protection was lost if contributions were paid between 6 April 2006 and 5 April 2023 to money purchase schemes and for defined benefits schemes, there was benefit accrual that exceed permitted limits. It’s no longer possible to apply for enhanced protection. If they have protected tax-free cash, the amount of tax-free cash that can be taken will be calculated using the protected percentage and the lower of the value of the benefits as at 5 April 2023 and the value of benefits at crystallisation.
Fixed protection maintains the lifetime allowance at a certain level depending on what type the individual has.
There are three different versions:
| Type | Maintains the lifetime allowance at | You had to apply by |
|---|---|---|
| Fixed protection 2012 | £1.8 million | 5 April 2012 |
| Fixed protection 2014 | £1.5 million | 5 April 2014 |
| Fixed protection 2016 | £1.25 million | No end date |
Anyone who opted for fixed protection 2012 or 2014 had to stop being an active member of all registered pension schemes between 6 April 2012 or 6 April 2014 respectively and 5 April 2023. It’s no longer possible to apply for fixed protection 2012 or 2014.
Anyone who opted for fixed protection 2016 before 15 March 2023 had to stop being an active member of all registered pension schemes between 6 April 2016 and 5 April 2023.
For those applying for fixed protection 2016 after 15 March 2023, they cannot accrue new pension benefits, join new arrangements or transfer in certain circumstances without losing this protection.
Individual protection maintains the lifetime allowance at a certain level depending on what type the individual has. There are two different versions:
| Type | Maintains the lifetime allowance at | You had to apply by |
|---|---|---|
| Individual protection 2014 | the lower of £1.5 million OR the value of benefits at 5 April 2014 | 5 April 2017 |
| Individual protection 2016 | the lower of £1.25 million OR the value of benefits at 5 April 2016 | No end date |
A crucial difference from fixed protection is they could still be an active member of a pension scheme.
It’s possible to apply for individual protection 2016 if the individual already has fixed protection 2012, 2014 and 2016 or enhanced protection, but not if they already had primary protection.
There’s no deadline for applying for individual protection 2016.
Will there be a benefit crystallisation event (BCE) if you die after age 75?
There's no BCE if you die after age 75. This is the case whether there are crystallised or uncrystallised benefits when someone dies. There will have been a BCE at age 75 anyway, so a test against the lifetime allowance would have happened then.
Are small lump sums tested against the lifetime allowance?
No. The payment of a small lump sum is not a benefit crystallisation event and as such the funds are not tested against the lifetime allowance.
So, if three small pots of £10,000 each are transferred from a non-occupational scheme to separate non-occupational arrangements and immediately taken, the value of an individual’s pension rights to be tested against the lifetime allowance will decrease by £30,000. All the conditions above must be met of course and the transfers have to be from uncrystallised rights.
Is there a BCE5 on beneficiary drawdown plans?
There currently is no BCE5 check on beneficiary drawdown plans at age 75, the benefits were tested when original plan holder took their benefits or died. The beneficiary benefits are not tested again. However, the beneficiary has built up pension savings in their own name they would be tested at age 75.
How are pre-commencement pensions valued against the lifetime allowance?
Pension benefits in payment before 6 April 2006 (also known as pre-commencement or pre-A-Day pensions) were not subject to a lifetime allowance check. However, if any pension benefits are taken on or after 6 April 2006, the benefits already taken are also counted towards the lifetime allowance used. This also applies if the first BCE is an age 75 check (BCE 5, 5A and 5B).
This is calculated immediately before the first benefit crystallisation event on or after 6 April 2006 and so reduces the individual’s amount of lifetime allowance available for the first benefit crystallisation event.
The value used depends on what type of pension the pre-6 April 2006 pension is.
Annuities/scheme pensions are valued at 25 x annual pension amount at the date of the first post 6 April 2006 benefit crystallisation event. They are valued at 25 rather than 20 as the individual is expected to have taken a tax-free lump sum when the benefits were taken.
Drawdown income, from 6 April 2015, this is valued as 80% of 25 x the maximum income allowable under capped drawdown at the point the BCE takes place.
Note: There will never be a lifetime allowance charge against any pre-6 April 2006 pension as valuing a pre-commencement pension is NOT a benefit crystallisation event.
Disclaimer
The information provided is based on our current understanding of the relevant legislation and regulations and may be subject to alteration as a result of changes in legislation or practice. Also it may not reflect the options available under a specific product which may not be as wide as legislations and regulations allow.
All references to taxation are based on our understanding of current taxation law and practice and may be affected by future changes in legislation and the individual circumstances of the investor.