Lifetime allowance (LTA) abolition: the politics, and what to do about it

Photo by Caleb Jones on Unsplash

Background

Set up in 2006 to avoid those newly allowed to contribute much more (over £200K p.a., plus carryforward) to pensions from getting carried away, the standard lifetime allowance (LTA) was set at £1.5m, rose (as scheduled at the outset) to £1.8m in 2009, fell in a series of steps to £1m and has increased a couple of times with inflation to £1.073m.

The 2006 “simplification” of pensions is now anything but, with a bewildering array of options, protections and strategies. The inheritance tax benefits of pension funds below the LTA make these, until the rules change, the simplest investment by which you can have your cake and eat it: for the ultra-wealthy, it’s a pure estate planning tool, for the moderately wealthy, it’s the last investment to attack to fund old age, and for everyone else, it’s a small pot to eke out State benefits.

What was a pension for?

The core point of the pension – tax relief at your marginal rate on the way in to encourage people to save for retirement and tax on most of it at your marginal rate on the way out – has been lost in the wash. 

In the 1980s and 1990s, personal pension charges by providers were extortionate, but flying stock markets resulted in excellent results despite this. Flatlining stock markets since 2000 (when FTSE100 first hit 7,000, about where it’s been ever since) have more than offset much cheaper pension charges. As private sector employers stepped away from “final salary” pensions or went bust by continuing to promise pensions they couldn’t afford, there are now three groups of pension-holders, the first two of whom are significantly impacted by LTA changes:

• Higher-paid final salary members (mostly public sector).

• The SIPP brigade. These are those who built up pensions in the good years, including a few who have transferred from final salary schemes.

• Everyone else.

Changes to the LTA

Impact of the abolition of the LTA (the Tory plan)

Final salary members, especially doctors, have been a political focus. Most people like to be paid to go to work; relatively few are prepared to work for nothing and still fewer are prepared to accept a promotion and end up writing a cheque to HMRC in return for some extra pension which will be super-taxed again. The core problem was both the annual allowance and the LTA: removing one certainly helps. The inability to separate the pension arrangement from earnings is a connected problem: if you retire from the NHS and rejoin the same job as a pensioner, you lose all sorts of elements of pay awards.  

Most of the SIPP brigade take tax-free cash when their pension fund reaches the LTA and then manage the pension plan by drawing taxable income to stay within it. Abolition of the LTA, if retained, means they should cease to draw unneeded taxable income. As the level of tax-free cash has been capped (in the Budget) at £268K or 25% of the current standard LTA, they should mostly continue to take TFC once the fund reaches £1.073m.

Everyone else just has a lot less form-filling to do on taking benefits, reaching age 75 and for their executors/trustees on death. The situation that death at age 74 with perhaps £50,000 in a personal pension pot requires the family to research back maybe 24 years to what benefits were taken when to confirm that it was not over a £1m plus figure the family can only dream of, is ridiculous - and still more so when the £50,000 is a combination of pots from five separate employments.

Will abolishing the LTA achieve the objective of keeping doctors in the NHS?

The LTA was originally a creation of a Tory Government, and its entirely foreseen consequences now (with the LTA more than halved in real terms) are at the door of increasing socialism in the nominally Conservative party. Taxation is at its highest level ever, State interference is all and aspiration is taxed. The divide on the Covid pandemic between “key workers” (those paid by the private sector’s taxes) and everyone else expressed this perfectly. The private sector became, broadly, State benefits recipients (furlough), and many discovered that by multiple jobs on minimal pay and working from home, you could pay much lower costs and taxes and get State support.

The “key workers” group have discovered the same. They are now on strike to have a pay rise merely with inflation. It may be that the magic money tree is no longer bearing fruit, but their costs are up by more than their net earnings. The solution is getting a private sector job or early retirement on health grounds.

High-earning doctors have discovered that working beyond the LTA involves a substantial pay cut, or worse: many have left the NHS, and few will return. The NHS working environment is toxic, and for those who can afford not to work, pension changes are only a small part of the problem. The choice is between earning £100,000 p.a. effectively without a pension from the NHS and providing little benefit to patients or £500,000 p.a. privately and making people better.

Restoring the LTA (the Labour plan, once in Government)

This is on par with abolishing private schools in terms of stupidity. It can only accelerate early “retirement” by those who would otherwise be caught by the reintroduction before the Election. The Labour plan to make the NHS exempt from the LTA will just annoy teachers, prison officers, social workers, police and so on.

This also means that the small number of those with very substantial pension pots, well above the LTA, may look to take them all before the next Election, taxed at 45% rather than later at 55% or more.    

Initial overall conclusions

The final salary group have an exceptionally complex set of decisions to make. I will not be advising in this area, and any advisers who do should check their insurance. 

The SIPP brigade also have some tough choices. For most of those with unvested funds over the LTA, the logic of drawing any monies over the LTA taxed at 45% in 23/24 will appeal more than leaving it in to be taxed at more when drawn later, whether by themselves, at age 75 or after their deaths by their families. They have time to take other estate planning measures with monies drawn. For those whose funds are around the LTA level, the abolition of the LTA will be useful, and its potential restoration a nuisance, but no major strategy change is required.

The key determinant of whether investing materially into a pension is a good idea depends on a) personal circumstances and b) investment returns achieved within a pension relative to investments you would have made outside it. For a few, tax changes are key, but for the majority, they are a minor part of the picture.

EJA 17.03.2023