People saving for retirement received a boost in the government’s Spring Budget, as Chancellor Jeremy Hunt announced a raft of changes to pensions allowances.
The broad picture is of fewer tax restrictions on pensions, with the opportunity around retirement saving simplified for many people. You can see the key changes in our table below, as well as details of what it means for you.
The key pension changes
1. The key changes – lifetime allowance
The big announcement for investors is the abolition of the lifetime allowance from April 2023, or the amount you can have in your pension before you incur extra tax charges. Importantly, the lifetime allowance is a limit on how much you can have in pension benefits in total, not how much you had paid in overall.
Under the current rules, if the total value of your pension exceeds the lifetime allowance when you take pension benefits or reach the age of 75, you face a hefty tax charge – assuming you don’t have lifetime-allowance protection2. Taking a lump sum in excess of the lifetime allowance triggers a tax charge of 55%, while taking pension benefits as income means a charge of 25% – on top of whatever you pay in income tax.
The removal of the lifetime allowance next month should help to make pension planning much simpler and will mean people can give their pensions savings a boost without worrying about facing a tax charge. If you are unsure how these changes affect you, seek financial advice.
2. Tax-free cash
Investors can currently take 25% out of their pension as tax-free cash, up to the value of the lifetime allowance. With the lifetime allowance set at £1,073,100 for 2022/23, that means you can access a maximum of £268,275 without paying any form of tax. The tax-free cash lump sum will be frozen at that £268,275 figure from April 2023. Those with protected tax-free cash – a legacy of previous changes to pensions – still benefit from a higher figure dependant on their personal situation. If you are not sure, seek financial advice.
3. Higher annual allowances
The Chancellor also increased the amount you can put into your pension each tax year. From 2023/24, you’ll be able to put in £60,000 gross each year, up from £40,000 gross. A higher annual allowance will be useful for those who have not built up enough retirement funds already, or those with volatile earnings, who may otherwise struggle to build up a sufficient retirement pot.
It is worth mentioning that the rules also allow people to carry forward any unused allowance from the previous three tax years, provided you have been a member of a relevant pension scheme – such as a SIPP in that time. That represents a good opportunity to make up for any lost ground and means that someone will be able to contribute a maximum of £180,000 into a pension for the 2023/24 tax year in practice – three years of the previous annual allowance at £40,000, plus £60,000 for the 2023/24 tax year.
4. Money purchase annual allowance
Jeremy Hunt’s final change was to increase the money purchase annual allowance (MPAA), i.e., how much you can put into a pension once you have already accessed it through a taxable payment. This can either be after you have taken a lump sum for the first time (uncrystallised funds pension lump sum or UFPLS) or if you have accessed your pension by taking an income (flexi-access drawdown or FAD).
The MPAA is being raised from £4,000 to £10,000, which should help people to rebuild the value of their pots if they need to access them. Someone taking out a quarter of a £100,000 pot would need four years to rebuild their pension to its previous level with the £4,000 MPAA, for example, but it takes fewer than two years with a £10,000 MPAA, assuming a 5% compound growth rate in both cases. It may not seem like a big change, but it can make a difference when you are approaching retirement and want to stop working in the next few years.
5. A slightly higher threshold for the tapered annual allowance
While the vast majority of people can take advantage of the annual allowance without any difficulty, it stands at £4,000 in 2022/23 for very high earners. The tapered annual allowance means that you lose £1 for every £2 of adjusted income over £240,000, but that threshold has now risen to £260,000 for 2023/24 and is reduced down to £10,000 instead.
Don’t forget the impact of extra contributions…
The Budget covered more than just pensions of course. From April 2024, working parents of two-year-olds will get 15 hours of free childcare, while children from nine months will get 15 free hours from September that year. By September 2025, all eligible under-fives will get 30 hours of free childcare.
If people are encouraged to return to the workforce earlier than they otherwise would, their pensions are also likely to benefit if they restart pension contributions. Based on a salary of £30,000, someone returning to work a year early could put away an extra £1,900 in pension contributions, over the course of a year3. That could grow to more than £8,000 over 30 years, based on a compound return of 5% per annum.
The power of compounding, which refers to how your investments build up over time as you earn a return both on your original contributions and on your returns, works for everyone – but it can be particularly important for women, as they are more likely to take time out from work to raise children. The ‘childcare hit’ to their pensions comes relatively early in their lives when they have the most time to benefit from the power of compounding.
The Chancellor also took measures to encourage other groups back to the workforce though, most notably the over 50s, who should also benefit from a return to pension contributions.
1 While the lifetime allowance figure of £1,073,100 technically remains in 2023/4, the lifetime allowance charge is removed from April 2023, before the lifetime allowance itself is abolished from April 2024.
2 Currently you can still apply for individual and fixed 2016 protection, or if you hold enhanced, primary, individual and fixed 2012 & 2014 protection.
3 Assumed contribution rate of 8% as per auto-enrolment, on earnings between £6,240 and £30,000.
Investment risk information
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