If your pension is just over the limit, it might also be possible to cash out three rounds of up to Â£ 10,000 each under ‘potty’ rules, which would allow withdrawals to not match the allowance. for life. This could allow you to get the total amount held in your pension below the limit.
How to apply for protection?
There are two types of protection open for applications for the 2016 change. Anyone with savings worth more than Â£ 1million as of April 2016 can apply.
The first is called ‘Individual Protection 2016’, which protects the lifetime allowance down to the low of Â£ 1.25 million or the value of your pension savings on April 5, 2016. Those who benefit from this guarantee can continue to build up their pension but must pay tax on any amount withdrawn that exceeds their new protected lifetime allowance.
The second, called âfixed protection 2016â, fixes the compensation directly at Â£ 1.25 million. However, savers generally cannot continue to contribute after retirement without incurring a tax burden.
Should you stop saving for retirement when you reach the lifetime allowance?
As punitive as the tax bill may seem, most workers would be better off continuing to save for retirement beyond the threshold, experts said.
More than a million savers are expected to reach the lifetime allowance after the Chancellor froze the limit. Despite this, employer contributions would help offset the tax burden.
Calculations by LCP, a consultancy firm, showed that a higher rate taxpayer would receive Â£ 150 for every Â£ 100 he paid into his pension, even after the 55pc tax. This assumed that employers matched their contributions pound for pound. Meanwhile, base rate taxpayers would get Â£ 113 for every Â£ 100 invested.
Withdrawing anything over the lifetime allowance as a lump sum incurs a tax burden of 55pc, but viewing it as income reduces that bill to 25pc. Therefore, those who take money as income have even more to gain.
A higher rate taxpayer would have doubled his money even after the tax burden as long as he took his pension as income rather than a lump sum. Each Â£ 100 contribution would generate Â£ 200 after tax, assuming their income falls below Â£ 50,000 when they retire.
A base rate taxpayer would get Â£ 150 net of tax for a Â£ 100 contribution after the 25pc tax burden.
However, this does not apply to self-employed workers who do not receive employer contributions. They would do better by diverting their money to other tax-advantaged economies, like Isas.
Can you use your 25 pc of tax-free money to stay below the allowance for life?
It may be tempting to cash in the tax-exempt retirement lump sum of 25pc to keep your retirement capital from reaching the lifetime allowance. Unfortunately, this is no escape route.
Anytime you take more of your pension and âcrystallizeâ your pension, your provider should test your pot against the lifetime allowance and give you a statement showing the percentage you’ve used up. Once you have used 100pc of the allowance, any excess money you take out triggers a tax burden.
This means that everything you take from your pension is added up to show how much of your lifetime allowance you have used up.
Likewise, you can’t withdraw just enough money to stay below the threshold while continuing to top it up a bit afterwards. Taking even a single penny after the 25pc of non-taxable money triggers a tax rule called the âminimum annual purchase allowanceâ.
Everyone has an annual allowance when saving for a pension. You can pay up to Â£ 40,000 each year with tax relief, but that drops to just Â£ 4,000 after you dip into your taxable pension. This measure was introduced by the Treasury to prevent people from recycling large sums of money through pensions to benefit from the extra tax-free money.
Should a breach be declared?
Once you decide to start receiving your pension, your provider should test against the lifetime allowance. This means that they should automatically tell you how much tax you owe if you exceed your lifetime allowance and the amount is deducted before you receive your pension. You should receive updates from your provider whenever you get more out of it.
There is a âcatch-allâ rule that once you turn 75, your provider should test the value of any pensions not taken out of your drawing account. This means that it becomes impossible to avoid the tax burden.