Lifetime Allowance - act quickly to secure 'Fixed Protection' - Feb '12

On April 6^th the lifetime allowance on benefits that can be drawn from registered pension schemes without triggering tax charges will fall from £1.8m to £1.5m. Thereafter, if your pension pot grows to more than £1.5m before the benefits are taken, a rather punitive lifetime allowance charge will be applied to the excess (see below).

So, if your pension pot already looks as though it might exceed £1.5m without any further contributions, you can apply for Fixed Protection. Such applications must be received by HMRC by 5th April 2012 and will allow your pension funds to grow to £1.8m (or the level of the standard Lifetime Allowance if greater) before any lifetime allowance charge can be made.

Fixed Protection - potential pitfalls

Having secured Fixed Protection, it can still be lost if you:

1. start a new pension arrangement other than to accept a transfer of existing pension rights
2. make new contributions to an existing pension arrangement
3. accrue benefits under an occupational pension scheme

Auto-enrolment - watch out!

The first of those pitfalls also covers the forthcoming introduction of workplace pensions reform and auto-enrolment. If you are automatically enrolled into a workplace scheme and fail to opt out within one month, you will be treated as having joined the scheme and will lose your fixed protection. HMRC have been very clear that no allowances will be made. The auto-enrolment rules also apply if you change employment and don't forget that employers are required to re-enrol opted out employees every three years!

The Lifetime Allowance charge

When your pension benefits start to be paid (a crystallisation event) a recovery charge will be applied to the amount in excess of the Lifetime Allowance (£1.8m if Fixed Protection has been secured, £1.5m otherwise[1] (until such time as the standard Lifetime Allowance increases above these levels)). The amount of tax will depend on how the excess is paid. As The Pensions Advisory Service examples illustrate[2]:

1. If the excess is paid as a pension, it will be subject to a 25% tax charge and the income will then be subject to income tax. Thus if one had a fund worth £1.9m, £400,000 would be subject to the tax charge costing £100,000. The remaining fund of £1.8m would provide a taxable income and tax free lump sum.
2. If the excess is paid as a lump sum, it will be subject to a one-off 55% recovery charge. Using the same £1.9m fund example, £400,000 would be subject to the tax charge costing £220,000, leaving a lump sum of £180,000.

Should I apply for Fixed Protection?

The answer depends on the current value of your benefits and when you expect to draw those benefits. If your benefits currently exceed £1m then we suggest you quickly seek advice. Otherwise, you may still wish to check with an adviser. After all, an £800,000 fund growing at an annual compound rate of 7% will exceed the current £1.5m Lifetime Allowance inside ten years.