The 2021 Budget announced the freezing of the pensions lifetime allowance at its current level of £1,073,100 for the next five years as a way of reducing tax relief. This means that those with pension savings or entitlement above this level will need to pay additional taxes of 25% in respect of savings above the lifetime allowance.
While £1,073,100 might seem very high, it is in fact fairly easy for public sector workers in defined benefit (DB) schemes to accrue lifetime entitlement in excess of this amount. Someone earning £75,000 who accrues entitlement to two-thirds salary in retirement could be in danger of exceeding the lifetime allowance at retirement. In 2017/18, 4,550 people reached retirement with savings above the lifetime allowance according to HM Revenue and Customs (HMRC) scheme returns and paid a total of £185 million in additional taxes; these figures do not include those who submitted self-assessed tax returns.
Freezing the lifetime allowance for five years will result in an increase in the number of people exceeding the lifetime allowance at retirement in each year. Members of the industry have voiced concerns that freezing the lifetime allowance will reduce people’s motivation to save into pensions and means that many people who are behaving responsibly by saving into a pension will be required to pay a large tax bill. In the long term, freezing the lifetime allowance could create uncertainty about pensions and reduce trust in the system.
The Government faces difficult decisions now, as it tries to reduce the negative financial impacts of Covid-19 (Coronavirus); and pensions are a source of significant potential revenue. Wherever the Government attempts to cut spending, there are likely to be conflicts with other policy objectives. As the UK works to ensure that a future generation of workers has sufficient retirement income, the Government will need to consider how to balance at times conflicting objectives, in order to ensure that no single group is too disadvantaged.
Daniela Silcock is head of policy research at the Pensions Policy Institute