The limit has varied over the years. It started at £1,500,000 in 2006/07, rose to £1,800,000 in 2011/12 and then steadily reduced to £1,000,000 in 2016/17. It currently stands at £1,073,100.
A test against the lifetime allowance is done when there’s a benefit crystallisation event. There’s several benefit crystallisation events, the most common of which are:
A lifetime allowance charge can only apply when the value of your pension savings at a benefit crystallisation event is over the lifetime allowance. So, if you have pension savings of £2,000,000, there’s no charge at that point but if you crystallise all of your pension savings, there will be an lifetime allowance charge on the excess of £926,900 (£2,000,000 - £1,073,100).
The crystallised value for a defined contribution scheme is the amount of the fund taken, for a defined benefit scheme it’s 20 x the pension taken plus the tax-free cash.
If you crystallise benefits above the lifetime allowance, there’s a lifetime allowance charge. It can therefore be seen as a tax on pension savings growth, both growth resulting from contributions and investment returns.
It depends on how you take the benefits. Any excess over the lifetime allowance can be taken as a lump sum (a lifetime allowance excess lump sum) and the charge is 55%.
Alternatively, the excess can be used to provide an income, by either a pension annuity or income drawdown. The charge is then 25% but of course any pension instalments or withdrawals made will be taxed at the individual’s marginal rate of income tax. If the individual pays income tax at 40%, the tax ‘take’ is similar. If the individual pays income tax at 20% the tax take is less.
When the member takes benefits or reaches age 75, both the member and the scheme administrator are jointly liable for paying the charge but normally the scheme administrator will deduct the charge from the pension fund and pay it to HMRC.
Not everyone takes all their benefits at the same time. Someone could be a member of several pension schemes and crystallise them at different times or a defined contribution scheme could be crystallised in stages.
Each benefit crystallisation event uses up a proportion of the lifetime allowance that applies at the time.
Every time someone crystallises pension savings, they’re asked by the scheme administrator what percentage of the lifetime allowance they’ve already used up.
The scheme administrator then calculates the percentage of the lifetime allowance this crystallisation has used up and issues a lifetime allowance statement to this effect to the individual. If the crystallisation uses up more than the remaining lifetime allowance, the scheme administrator will ask the individual whether they want to take the excess as a lump sum or pension and deduct the appropriate charge.
See our article Benefit crystallisation events and the lifetime allowance charge for examples.
The percentage used up is always based on the lifetime allowance in the tax year the benefit crystallisation event happens and the balance left is always applied to the lifetime allowance at the next benefit crystallisation event.
So if someone crystallised £100,000 in 2017/18 when the lifetime allowance was £1 million, they’ll have used up 10% of the lifetime allowance. If they crystallise more pension savings they can crystallise up to 90% of £1,073,100 = £965,790 before an lifetime allowance charge applies.
Equally, once they’ve used up 100% of the lifetime allowance, all further benefit crystallisation events are chargeable – there’s no further lifetime allowance available because the lifetime allowance has increased.
This is a benefit crystallisation event, or to be accurate is one of several benefit crystallisation events depending on the benefit taken.
A benefit crystallisation event 7 is where the beneficiary takes a lump sum death benefit.
A benefit crystallisation event 5C is where the beneficiary takes a beneficiary drawdown.
A benefit crystallisation event 5D is where the beneficiary takes a dependant’s or nominee’s annuity.
Where beneficiary drawdown is available and a lifetime allowance charge is due, it doesn’t make any sense for the excess over the lifetime allowance to be taken as a lump sum. That will attract a lifetime allowance charge of 55%. If the death benefit is taken as beneficiary drawdown, the charge will be 25% and the entire drawdown fund can be taken as a lump sum at any time. Of course if death had been after 75, the withdrawals will attract an income tax liability at the beneficiary’s marginal rate.
The liability for paying any lifetime allowance charge falls on the recipient, not the scheme administrator. The charge is calculated by the Executor of the Estate as only they will know what other untested benefits the deceased had.
A transfer overseas can only be to a Qualifying Recognised Overseas Pension Scheme (QROPS) otherwise it’s an unauthorised payment.
Unlike a recognised transfer between two UK registered pension schemes, a transfer from a UK scheme to a QROPS is a benefit crystallisation event (a benefit crystallisation event 8). So if the amount of the transfer is over the relevant lifetime allowance, a lifetime allowance charge will apply. However, because the payment is not to the individual, the rate charged is 25%, not 55%, despite the fact that it involves a lump sum. If the pension savings were in respect of a pension drawdown plan which started before 6 April 2006 there will be no benefit crystallisation event 8 on transfer.
If pension savings were designated as drawdown from 6 April 2006, they will have been tested against the lifetime allowance (benefit crystallisation event 1) or scheme pension (benefit crystallisation event 2). To prevent double counting the overlap provision apply, the benefit crystallisation event 1 or benefit crystallisation event 2 amount is deducted from the value being transferred as a benefit crystallisation event 8. The difference will be tested against the individuals remaining lifetime allowance and any excess would have a 25% charge deducted.
A more or less final check against the lifetime allowance is made at age 75. ‘More or less’ because the only benefit crystallisation event that’s possible after age 75 is a benefit crystallisation event 3 which is when a scheme pension from an occupational pension scheme is increased by more than a permitted margin. This is very unusual.
What’s tested at age 75 is:
There are no further benefit crystallisation events if you crystallise pension rights or die after age 75.
Yes you can, if the terms and conditions allow. The maximum that can be taken is the lower of 25% of the fund and 25% of the lifetime allowance. You might expect the amount of the lifetime allowance available to be reduced by any benefit crystallisation events at age 75 but for this purpose, the benefit crystallisation event at age 75 is ignored. The lifetime allowance used in the maximum tax-free cash calculation isn’t reduced by any age 75 benefit crystallisation events.
See our article Lifetime allowance at age 75 for more details.
There are several forms of protection, each of which became available at different points in the history of the lifetime allowance.
When pensions simplification was introduced on 6 April 2006 two types of protection were available:
Tax-free cash can also have primary protection if the tax-free cash at 6 April 2006 was greater than 25% of the fund and greater than £375,000. The protected tax-free cash increased in line with increases in the lifetime allowance. The lifetime allowance reached a peak of £1.8 million on 6 April 2011 and decreases since then are ignored.
So tax-free cash of 120% (1.8/1.5) of the tax-free cash value at 6 April 2006 can be paid until such time as the standard lifetime allowance exceeds £1.8 million. After that it increases in line with lifetime allowance increases. If TFC was less than £375,000 at 6 April 2006, the amount payable is the lower of 25% of the fund and 25% of £1.5 million.
If tax-free cash at 6 April 2006 was greater than £375,000 and greater than 25% of the fund, enhanced protection of the tax-free cash will allow the same percentage of TFC to apply post 6 April 2006. If tax-free cash was less than £375,000, enhanced protection doesn’t apply to the tax-free cash; the amount available will be the lower of 25% of the fund and 25% of £1.5 million.
Scheme specific tax-free cash protection may also apply.
Primary and enhanced protection can apply to both the pension fund and tax-free cash or can apply to the fund only. They had to be applied for before 6 April 2009.
Each time it was reduced, fixed protection was made available to allow the member to retain the previous lifetime allowance. However, any contributions or benefit accrual results in the loss of fixed protection. Some transfers also result in the loss of fixed protection.
Fixed protection 16 is the only one you can still apply for.
Benefit accrual is different from the relevant benefit accrual that applies to enhanced protection. Fixed protection can be lost in any tax year where there’s been any benefit accrual.
Enhanced protection is only lost at the time of taking benefits or transferring from a defined benefit scheme to a defined contribution scheme – the calculation to see if relevant benefit accrual has happened is done at that point.
Individual protection. This allows a protected lifetime allowance up to the capped value of total pension savings at a certain date.
Individual protection 2014 provides protection up to the lower of the value of total pension savings at 5 April 2014 and £1.5 million. You could apply for it if your pension savings were worth at least £1.25 million.
Individual protection 16 provides protection equal to the lower of the value of total pension savings at 5 April 2016 and £1.25 million. Your pension savings had to be worth at least £1 million.
Further contributions, benefit accrual or transfers don’t result in the loss of individual protection 14 or individual protection 16.
You can still apply for fixed protection 16 and individual protection 16; there’s no time limit for applications.
You can even apply retrospectively after a benefit crystallisation event. In that event, the scheme administrator will have to recalculate the amount of lifetime allowance used up by the benefit crystallisation event and re-issue the lifetime allowance statement. If any charge had been paid, they’ll also apply to HMRC for a refund of some or all of the charge - HMRC Pensions Tax Manual:
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.