From 6 April 2024, the lifetime allowance rules will be abolished and replaced with three new allowances – here’s what you need to know.
This article isn’t personal advice. The information is based on our understanding of HMRC announcements as of 14 February and, like all tax rules, can change. Any benefits depend on your circumstances. If you’d like help from our expert financial advisers, ask for financial advice.
Out with the old – how is the lifetime allowance changing?
There used to be a limit on the total value of pension benefits you could build up throughout your lifetime and generally receive up to 25% tax free. This limit was known as the lifetime allowance (LTA) and was set at £1,073,100 for most people.
Normally, if the value of your pension benefits grew beyond the LTA, any excess would be subject to a tax charge. However, from 6 April 2024 the LTA rules will be abolished and replaced by three new allowances.
In with the new – the new allowances replacing the LTA
The three new allowances are the lump sum allowance (LSA), lump sum and death benefit allowance (LSDBA), and the overseas transfer allowance (OTA).
The new lump sum allowance
The lump sum allowance limits the amount which can be taken out of pensions tax free to £268,275 for most people.
However, there could be scenarios where some individuals might be able to receive additional tax-free amounts, when these new changes come into effect, which they wouldn’t have been entitled to under the current rules. Nevertheless, this is nuanced and will depend on a number of factors.
What if you previously accessed final salary benefits?
This is potentially more relevant to those with previous defined benefit pensions where they might have taken a higher starting pension income, for example, in exchange for a lower, or even no, tax-free cash payment. Where no tax-free cash was taken before, it’s lost under current rules, and could still be lost under the new rules.
What if you registered for LTA protection?
From next tax year, the maximum amount you can take tax free is usually limited to the LSA of £268,275. However, some individuals could have a different limit if they applied for protection in relation to previous changes to the lifetime allowance.
New transitional tax-free amount certificate (TTFA)
The new rules could let some individuals (or, if deceased, their personal representatives) to apply for a TTFA certificate by providing evidence of how much has been withdrawn tax free in the past.
This could potentially allow them (or their beneficiaries) to take more tax free than they would’ve been able to under the current rules, or under HMRC’s standard transitional calculation.
Who could consider applying for a TTFA?
The following also apply to personal representatives applying on behalf of deceased individuals.
Anyone who didn’t commute their defined benefits pensions or possibly those who might have taken a guaranteed annuity rate only from their defined contribution pension.
Those who might have accessed pension benefits when the LTA was below £1,073,100 across the four tax years from tax year 2016-2017 to tax year 2019-2020. In these tax years, the amount which could’ve been withdrawn tax free could’ve been based on 25% of a lower LTA threshold.
Anyone who used lifetime allowance as a result of transferring to a qualifying recognised overseas pension scheme (QROPS).
Those over the age of 75 where pension benefits remain untaken. Funds will have been tested against the LTA at age 75 which could’ve used some or all of the LTA, with the standard calculation applying 25% of the LTA .
Those who’ve used all of their lifetime allowance
Those who have pensions in payment from before 6 April 2006 that have used their lifetime allowance.
For those who’ve never previously used any lifetime allowance and don’t have protection against the LTA, then this arguably becomes a simpler exercise. The lump sum allowance (LSA) limits the amount which can be taken tax free to £268,275.
You can only apply for a TTFA certificate before the first time the individual uses any of their LSA or LSDBA after 5 April 2024.
How the standard transitional calculation works
If you’ve used any of your lifetime allowance before 6 April 2024, how much of your LSA and LSDBA you have left will usually be calculated using a ‘standard transitional calculation’ set out by HMRC.
For most people this will be done by multiplying the amount of lifetime allowance they’ve used by 25% and deducting the result from both allowances.
For example, if you’ve used 50% of your lifetime allowance the calculation would be:
50% x £1,073,100 x 25% = £134,137.50
Remaining lump sum allowance = £268,275 - £134,137.50 = £134,137.50
Remaining lump sum and death benefit allowance = £1,073,100 - £134,137.50 = £938,962.50.
If you’ve used all of your lifetime allowance, you’ll usually be deemed to have no available LSA or LSDBA.
The lump sum and death benefit allowance
For most people the lump sum and death benefit allowance will be £1,073,100.
Like the LSA, certain types of payment will use up your LSDBA.
Those payments include:
Pension commencement lump sums (PCLS)
The tax-free element of an Uncrystallised Funds Pension Lump Sum (UFPLS)
The tax-free element of serious ill health lump sums
Non-taxable lump sum death benefits, excluding charity lump sum death benefits, trivial commutation lump sum death benefits, lump sum death benefits paid from funds crystallised before 6 April 2024, and lump sum death benefits paid from beneficiary drawdown funds.
The above lump sums are all examples of what are called ‘Relevant Benefit Crystallisation Events’ (RBCEs).
The overseas transfer allowance
This new allowance covers transfers to qualifying recognised overseas pension schemes (QROPS). It’s also set at the amount of the old lifetime allowance – £1,073,100, for most people.
Real-world example – understanding the impact
Let’s say you haven’t yet taken any pension benefits and decide you’d like to move £100,000 of your pension into drawdown. Typically, up to 25% of the amount being moved into drawdown can be paid as a tax-free lump sum (PCLS).
Under the new rules – it would only be the PCLS (tax-free cash) amount of £25,000 that would use up your LSA and LSDBA.
So, after taking that PCLS, you’d have £243,275 of your LSA and £1,048,100 of your LSDBA left.
If you exceed the LSA or LSDBA, any excess will be taxed at either yours or your beneficiaries’ marginal income tax rate. Transfers to QROPS that exceed the overseas transfer allowance will normally be subject to the Overseas Transfer Charge (OTC) of 25%.
Understanding the impact on beneficiaries is also crucial. If you pass away before 75, lump sums within the allowances are generally tax free. After 75, your beneficiaries will need to pay income tax at their marginal rate on any benefits they receive.
Get help from an expert financial adviser
This is a very complex area, but it’s important to know all your options and make the most of them – this is where financial advice can help.
Our financial advisers can assess the rules against your circumstances and provide personalised recommendations.
The first step is to book a call with our advisory helpdesk. While our helpdesk won’t give you advice themselves, they’ll help you decide if taking advice is right for you, and discuss the costs involved.
Speak to our advisory helpdesk between 13 Feb – 8 Mar and go ahead within 6 months. Minimum charges apply. See full terms.