Your pension is a valuable asset, so it’s important to understand the lifetime allowance tax treatment that comes with it. This guide focuses on Defined Contribution (DC) pensions and helps you navigate the tax implications and charges of your pension within the Lifetime Allowance (LTA). Before we go into the detail, let’s run through the basics of tax and pensions first.
Before you start withdrawing, your entire pension value is considered ‘uncrystallised’. At age 55, you can enjoy tax-free withdrawals of up to 25% of your pension fund, up to the LTA limit of £268,275. The rest of your funds within the LTA limit will then be ‘crystallised’ and placed in ‘drawdown’, and any future withdrawals may be taxed at your marginal income tax rate and subject to LTA charges.
Lastly, we should note that your pension funds will likely be exempt from Inheritance Tax (IHT).
If you have funds in excess of the LTA, you’ll face a tax charge under three circumstances:
- When you turn 75.
- If you pass away before age 75.
- If you withdraw funds in excess of the LTA before age 75.
For the first two events, a 25% tax charge will automatically be taken from your LTA excess. But for the third event, you have a choice. You can either opt for a lump sum withdrawal or choose drawdown designation, each with its own unique tax implications. Get all the details below.
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Lump sum Charge
If you have funds in excess of the pension lifetime allowance, you have the choice to take them as a lump sum or series of lump sums before age 75. This option will be taxed at a one-time rate of 55%, and the remaining 45% will be paid directly to your bank account.
Take a look at the chart to see how it works in practice for David. See the potential impact that the LTA excess lump sum option can have on your pension and future retirement plans.
In this scenario, if you have funds in excess of the Pension LTA, you may face two tax charges. Let’s take a look.
When you designate the excess funds for drawdown, they’ll be subject to a 25% tax charge, which is paid directly from your pension funds. This will effectively crystallize the funds, but they’ll still be in the pension wrapper.
And if you choose to withdraw these funds later, they’ll be subject to your marginal rate of income tax. Get a better understanding of the LTA excess drawdown option by taking a look at the chart to the left, which shows how it would work in practice for David. Also, compare this with the lump sum option above to see what would work best for you.
Second Test at 75
There may be an additional LTA excess charge on your crystallised funds when you reach age 75. This exact charge will depend on your personal circumstances and it’s best to discuss it with a wealth manager or pension tax specialist.
Take control of your financial future and manage your LTA charge effectively. Get in touch with a financial adviser to help you make informed decisions.
speak to an adviser
We’d love to hear from you and by contacting Philip Crinion and Anna Warren at the link below you can arrange a consultation with us.
By using Bentley Reid you can be confident you will receive:
✔️ A free one hour initial consultation.
✔️ A tax expert with a minimum of 15 years’ experience in highly complex personal tax planning.
✔️ Tax planning opportunities, such as using the remittance basis of taxation or structuring overseas assets.
✔️ Expert advice delivered in a clear and concise way that is easy for you to understand.
✔️ Manage potential liabilities by receiving advice on tax planning opportunities, including Inheritance Tax, moving to the UK/Australia.
✔️ We look to provide upfront fee quotes so that you have a clear idea of any costs from the outset.
✔️ Peace of mind that a professional is guiding you through the process and ensuring compliance with tax requirements.
✔️ An accurate and clear assessment of all considerations in your global financial situation.
Lifetime Allowance Guides
Read our guides below and if we can help in anyway or if you want to learn more about anything please get in touch