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Rich savers are warned {that a} new “catch within the small print” of reforms to the lifetime allowance could put them liable to overpaying tax on pension withdrawals.
The warning comes from specialists who’re urging people to make sure they hold information of tax-free withdrawals from their pension pots or face the taxman guessing what they’ve taken.
The problem centres on the federal government’s resolution final 12 months to scrap the lifetime allowance, which set a £1.073mn restrict on what might be collected in a pension tax free.
Coming into impact on April 6 2024, the transfer was welcomed by pension holders with bigger funds, however specialists mentioned a corresponding resolution to cap the quantity that may be taken tax free from a retirement fund had launched a brand new complication for savers.
The tax-free restrict was beforehand 25 per cent of the LTA. However this has subsequently been capped at £268,275 (the brand new lump sum allowance). It would nonetheless be doable to take lump sums above this quantity, however something above the allowance (LSA) will probably be handled as taxable earnings.
Specialists say many savers are unaware the onus is now on them to maintain observe of their LSA — a specific headache for individuals who have already taken tax-free lump sums below the outdated system.
“Prior to now there was no particular lifetime restrict on tax-free money so there was no have to hold information as to how a lot you might have taken in complete,” mentioned Alasdair Mayes, accomplice at LCP, an adviser to pension schemes.
“With the brand new system coming in, HM Income & Customs didn’t wish to ignore the tax-free lump sums which individuals had already taken, and plan to attain these towards the newly created lump sum allowance.”
If savers don’t have information, HMRC will “estimate” how a lot has been taken.
“For many individuals this will probably be an inexpensive sufficient assumption, particularly for individuals who solely accessed their pension comparatively lately. Nonetheless, for some folks this assumption will probably be far an excessive amount of.”
Savers assumed by HMRC to have taken extra of their LSA than they really have danger shedding out on their tax-free entitlement.
“The issue with the default method is that it assumes that 25 per cent was taken as a tax-free lump sum each time advantages have been crystallised previous to April 6 2024, which can not have been the case,” mentioned Abrdn, a pension supplier, in a technical observe.
It added that these in outlined profit schemes could not have needed to show their assured earnings right into a lump sum. Older outlined contribution schemes may have had assured annuity charges, so members may need aimed to make use of all of their fund to safe the best earnings.
“To handle this, HMRC permits people to use for a transitional tax-free quantity certificates (TTFAC), doubtlessly permitting 25 per cent tax-free money to be taken with future withdrawals the place in any other case there could be no tax-free money,” Abrdn mentioned.
Sir Steve Webb, a accomplice at LCP, added that the certificates was “properly value” exploring for savers who had taken lower than the utmost tax-free money from a earlier pension and have additional pensions nonetheless to take “which could push them over the brand new lump sum restrict.”
For these but to take their first pension, the system will probably be comparatively easy once they take a pension and withdraw some tax-free money. Their pension scheme or supplier will set out in writing how a lot of their LSA they’ve used up.
Savers have to hold maintain of this data as they must inform the supplier of another pension pots they take how a lot LSA they’ve used up.
“As ever, the golden rule is to maintain your whole paperwork,” mentioned Webb.
“The lifetime allowance could have gone away, however the necessity to hold information of your whole pensions, together with ones you’ve taken up to now, has not.”
