Written by Jon Dean on Friday 10 April 2015
Industry commentators have been near-universal in condemning this week’s cut in the Lifetime Allowance (LTA) to £1m. Some say it was a politically motivated move, on two counts. Firstly, the £1m figure is symbolically associated with ‘the rich’, and the wider public has poor understanding of the value of this sum when converted to a guaranteed income for life. Secondly, it takes out a source of funding for Labour’s manifesto promise to cut university tuition fees. Certainly the £600m it raises is relatively modest in comparison with some of the other Budget measures such as the Banking Levy and removal of Corporation Tax Relief from compensation payments – together raising £5.3bn.
Ignoring the motivation for the change, what does it mean for the average pension saver? The Chancellor told us the change will only impact around 4% of those nearing retirement, and there will be protection for anyone who has already breached this limit. The reality is that those 4% will include the better-paid, longest-serving members of defined benefit (DB) schemes, and a group of diligent and astute investors in defined contribution (DC) schemes.
To accrue an LTA-busting DB pension over £50,000 (which includes indexation and spouse’s benefits) will typically mean retiring on a final salary of over £75,000 with 40 years of pensionable service – hardly the average man in the street. In a DC scheme, the LTA rules are different and £1m will buy an equivalent increasing annuity of around £34,000 – still well above the UK’s average earnings of £26,500 but without the 40-hour week. So it’s hard to argue that the LTA has now been cut to a level that will impact a significant proportion of the population. What’s harder to justify is the huge difference in treatment between DB pensions, where the member bears no risk, and DC, where they are exposed to both investment and longevity risks.
Also a concern is the message that the Government is sending out to pension savers. The LTA has fallen £800,000 or 45% since the 2011/12 tax year. The Annual Allowance, £255,000 in 2010/11 is now £40,000 and savers would be unwise to trust any party’s promises not to further reduce this in future. Pensions planning is for the long-term, and such political uncertainty might effectively discourage anyone currently saving for their retirement.
In the end, demographics may render generous pensions tax incentives unaffordable. Over the next 25 years the ratio of pensioners to those of working age in the UK will double to nearly 60%. With fewer taxpaying employees and higher health and elderly care costs, might restricting the tax reliefs for retirees become inevitable?
Quote for joint annuity from Money Advice Service based on age 65 in April with 61 year old spouse, 3% escalation with no guarantee period, with no tax free cash taken
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