At last! Hated 55 per cent HORROR TAX under review - Chancellor FINALLY set to increase 'unfair' pensions lifetime allowance
House of Commons
Published: 28/01/2023- 12:56
Updated: 14/02/2023- 10:20
The pensions lifetime allowance (LTA) could be significantly increased or even scrapped under new plans to get millions of over 50s back into work.
Chancellor Jeremy Hunt is considering the dramatic move in a bid to end the “enormous and shocking waste" of talent and potential in Britain.
The hated tax, which sees retirees pay 55 per cent on lump sum withdrawals if their pension pot grows to more than £1.073 million, has deterred many Brits from working into their later years as they are penalised for saving longer.
The LTA has long been criticised as a confusing tax on investment growth - which people can't predict or control - making effective retirement planning almost impossible.
It has also been steadily eroded meaning pension pots worth half as much as those that were exempt just a decade ago are now being targeted for the huge tax rate, one of the highest in the world.
Economists believe the LTA could also be contributing to inflation, as an ever smaller pool of workers demand better pay.
Ministers are understood to be examining ways to boost - or even scrap - the lifetime allowance to encourage many more over-50s to stay in work.
One option believed to be under consideration is reducing the amount people can save in their pensions to £30,000-a-year, from the current £40,000, and scrapping both higher and additional rate tax relief on contributions.
Instead, everyone would receive a flat-rate of 20 per cent tax relief on future contributions, but there would be no limit on how much can be saved or on investment growth over a lifetime.
This is similar to the US '401k' system, where people can save up to $27,000 of pre-tax income into their pensions, but there is no lifetime cap. Nearly 40 per cent of the US workforce in 'essential' jobs, such as healthcare, are those aged over 50.
George Osborne introduced the pensions lifetime allowance in 2006
Mr Hunt said that, in contrast, around one-fifth of working age adults are economically inactive, which is severely damaging economic productivity in the UK.
He said: "Excluding students, that amounts to 6.6 million people. An enormous and shocking waste of talent and potential.
"Of that 6.6 million people, around 1.4 million want to work, but a further five million don't."
When the LTA was introduced in 2006 the allowance was £1.5 million.
It has since been raised, cut and frozen multiple times, with successive chancellors tinkering with the rules.
It is currently frozen until 2026, a move which has caught many more pensioners out.
Currently, savings of £1,073 million will buy an annuity of around £46,000-a-year for life - so many middle earners are bing caught in the lifetime allowance tax trap.
If a pensioner withdraws £100,000 of savings above the threshold at once, it triggers a staggering £55,000 tax bill.
Andrew Tully, technical director at Canada Life, said constant changes means the LTA no longer just hits the super wealthy.
He added: "It's a nightmare to navigate and puts people off saving."
Tom Selby, head of retirement policy at AJ Bell, added that the LTA is so "horrifically complex" it is almost impossible to understand.
The limit on pension savings has particularly impacted the NHS, where many doctors have retired early - and sometimes against their will - to avoid enormous tax bills.
NHS staff cannot control how much is saved in their pension each year, which means the only solution is to reduce their hours.
Mr Hunt said: “Total employment is nearly 300,000 people lower than pre-pandemic, with around one-fifth of working age adults economically inactive.
"So it is time for a fundamental programme of reforms to support people with long-term conditions or mental illness to overcome the barriers and prejudices that prevent them from working.
"We will never harness the full potential of our country unless we unlock it for each and every one of our citizens. Nor will we fix our productivity puzzle unless everyone who can participate does.
"So to those who retired early after the pandemic or haven't found the right role after furlough, I say Britain needs you and we will look at the conditions necessary to make work worth your while."
Nearly nine million people in Britain are not in work despite being aged 18-65. That figure includes students, those looking after families such as stay-at-home mothers and carers, the long-term sick and early retirees.
Pensions LTA warning: Thousands of middle earners are being caught in the tax trap
Meanwhile, the cost of pension tax relief to the Treasury is soaring. In 2022-23 the estimated income tax relief on pension contributions hit £27 billion - about the same amount Britain spends on defence - up from just £20 billion five years ago.
It is estimated that scrapping the lifetime allowance would cost the Government less than £1bn per year, with fewer than 50,000 individuals currently paying the tax.
Meanwhile adopting a 20 per cent flat rate for pensions tax relief - while simultaneously removing the hated lifetime cap for all savers - would save the Treasury a net £10bn per year. Dropping the contribution cap to £30,000 would save the Government even more money.
Economists argue the pensions lifetime allowance is also unfair on people in private pension schemes because it allows those on defined-benefits (DB) pensions to have much higher levels of untaxed income than those with defined contribution pensions. This is because DB pensions are tested at a rate of 20 times the income they generate, plus any tax-free cash.