Changes to the Lifetime Allowance

As you may be aware the standard lifetime allowance is reducing from £1.25 million to £1 million with effect from 6th April 2016.

The lifetime allowance is the maximum pension fund that an individual can accumulate from all of their pension schemes without being subject to the lifetime allowance tax charge. If the value of the pension benefits exceeds the lifetime allowance then the excess amount will be subject to a tax charge.

The   lifetime allowance was originally introduced in 2006 when there was an opportunity for individuals who already had funds in excess of, or close to, the lifetime allowance to apply for ‘primary’ or ‘enhanced’ protection. Although HM Revenue & Customs (HMRC) will not allow new applications for these types of protection, members who currently have either of these types of protection in place will not be affected by the 2016 changes to the lifetime and will continue to benefit from their existing protection from the lifetime allowance tax charge.

On 6 April 2012, the lifetime allowance was reduced from £1.8 million to £1.5 million and a new type of lifetime allowance protection called ‘fixed protection’ was introduced. This fixed protection preserved the lifetime allowance at the level of £1.8 million for members who applied before 6 April 2012, provided no further benefits were accrued, for example by making additional contributions.

Similarly, with the next reduction in the lifetime allowance to £1.25 million on 6 April 2014, there was an opportunity to apply for ‘fixed protection 2014’. Similar to the 2012 fixed protection, individuals who applied fixed their lifetime allowance at the then level of £1.5 million, provided no further benefits were accrued.

With this third reduction in the lifetime allowance, there will be another opportunity for members, who do not currently have protection, to protect their current allowance of £1.25 million by applying for ‘fixed protection 2016’. As with previous fixed protections, no further benefits will be able to accrue after 5 April 2016.

Whether to apply for fixed protection 2016 will be an important question for those members with pension funds that are likely to be in excess of, or close to, the lifetime allowance of £1 million by the time retirement benefits are taken, and the points outlined below should be taken into consideration.

Fund Value 

If a fund value in excess of £1 million has been accumulated and it is not already protected, then fixed protection 2016 will mean funds up to the current lifetime allowance of £1.25 million will be protected from the lifetime charge, providing no further benefits accrued.

It is not only funds already in excess of £1 million that could benefit from fixed protection 2016. If the fund value is currently below that level but investment growth is likely to increase it above £1 million before benefits are drawn from the plan, then fixed protection 2016 should be considered.

Ongoing funding

Fixed protection 2016 would be revoked if, after 5 April 2016, a contribution is paid into any money purchase pension scheme, or if benefits accrue in any final salary scheme at an annual rate in excess of the Consumer Prices Index (CPI), or other rate as may have been specified in the scheme rules.

Contributions paid, or benefits accrued, before 6 April 2016 will not cause fixed protection 2016 to be lost.

Therefore, if, after 5 April 2016 the intention is for further contributions to be paid into any pension arrangement, or membership pf any final salary scheme after that time is still ‘active’, then fixed protection 2016 may not be appropriate.

Existing protection

Individuals who already have primary or enhanced protection, or fixed protection 2012 or 2014, cannot apply for fixed protection 2016.

Individual protection

Not to be confused with fixed protection 2016, a further protection of the lifetime allowance, individual protection 2016, will also be introduced from 6 April 2016.

Under the current proposals, individual protection 2016 will allow members whose pension funds are valued over £1 million (the lifetime allowance from 6 April 2016) to protect those funds from the lifetime allowance tax charge. The individual will be given a personalised lifetime allowance based on the value of their pension savings at 5 April 2016 (up to a maximum of £1.25 million).  A significant difference to fixed protection 2016 is that individuals will still be able to be an active member of a pension scheme and accrue benefits. Only funds in excess of the individual’s personalised lifetime allowance will be subject to a lifetime allowance tax charge. Applying for fixed protection 2016would not prevent an application for individual protection 2016 as well.

Members can still apply for individual protection 2014 to protect any pension savings built up before 6 April 2014 from the lifetime allowance charge (up to a maximum of £1.5 million). This application can be made via a current online HMRC application form.

How to apply 

Unlike previous fixed protection regimes, which had to be applied for in advance of the date of the lifetime allowance reduction, HMRC has this time advised that applications for fixed or individual protection 2016 can only be made online and the system will not be available until July 2016. This means that fixed protection 2016 will need to be applied for retrospectively, and members wishing to apply will need to ensure that no benefits are accrued between 6 April 2016 and the date of application. For any members who wish to draw benefits prior to the online application process becoming available and who wish to use either fixed or individual protection 2016 they can apply in writing to HMRC for a temporary protection reference number. It should be noted that the temporary protection reference number will expire on 31 July 2016 and therefore if fixed or individual protection 2016 is required after this date members would need to make an online application for a permanent protection number.

It will be the responsibility of individuals to apply for fixed and individual protection 2016 and therefore, unfortunately, this is not a service we can provide.

On making an online application the system will provide a protection reference number, as opposed to previous protection application processes which resulted in a protection certificate being issued. It is important that you notify this number to the administrator, using the reference at the top of this letter, as this will need to be taken into account when calculating any lifetime allowance tax that may need to be paid and the maximum retirement benefits available from the plan.

Tapered annual allowance for high earners 

With effect from 6 April 2016, an individual with a taxable income, not including pension contributions, of £110,000 or more could see their annual allowance decreased from the current level of £40,000. The annual allowance is the amount an individual can contribute or accrue to their pension plan without being subject to the annual allowance tax charge. A taper is being introduced so that such an individual will have their annual allowance reduced by £1 for each £2 by which their ‘adjusted income’ (essentially earned income plus the value of any personal or employer pension contributions made during the year) exceeds £150,000; subject to a minimum annual allowance of £10,000 for individuals with an adjusted income of £210,000 or more.

Individuals who do not have an income of at least £110,000 or those whose adjusted income is £150,000 or less, are not affected by the papered annual allowance,

If a client has any questions about fixed or individual protection 2016, or about the tapered annual allowance, we recommend they contact your financial adviser at Pareto Financial Planning on 0161 819 1311.