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More of ‘middle Britain’ could be caught in pensions tax net, experts warn

Vicky Shaw
·3-min read

Pension savers may need to brace themselves for a “stealth tax” if the lifetime allowance is frozen in next week’s Budget, experts are warning.

The longer the allowance is held at its current level, the more of “middle Britain”, including NHS doctors, could be caught in the tax net, pensions professionals said.

The Times reported on Friday that Chancellor Rishi Sunak could announce on March 3 that the lifetime allowance – the amount people can save before tax charges kick in – will be frozen at just over £1 million.

As more people would be pulled into the tax net, about 10,000 people with larger pensions could pay more than £22,000 extra in tax by 2024, it was reported.

The lifetime allowance had been expected to increase by £5,800 in 2021/22, in line with inflation.

Tom Selby, senior analyst at AJ Bell, said: “If we see a vaccine-inspired spending boom in the UK this summer, for example, inflation could be pushed northwards – and so too would the lifetime allowance under current legislation.

Watch: When should I start paying into a pension?

“By freezing the lifetime allowance as inflation spikes, the Chancellor will stealthily drag thousands more people into his tax net.

“Among those to be hit by this move will be NHS doctors, who benefit from generous defined benefit pensions.

“Furthermore, the longer the lifetime allowance is kept at its current level, the more of middle Britain will be dragged into its orbit.”

Mr Selby said £1 million might sound like a huge pension pot – but when stretched over a 30-year retirement “it becomes far more modest”.

He said: “Take a healthy 66-year-old with a £1 million pot who takes their 25% tax-free cash entitlement and uses the remaining £750,000 to buy a single-life, inflation-protected annuity.

“At current rates, that pot might buy a guaranteed income for the rest of their life worth around £29,000 – enough for a comfortable standard of living perhaps, but only on par with the average UK wage.”

Sir Steve Webb
Sir Steve Webb said probably more than a million people of working age can expect to breach the £1m lifetime allowance threshold based on current policies (Dave Thompson/PA)

Former pensions minister Sir Steve Webb, who is now a partner at financial consultancy LCP (Lane Clark & Peacock), told the PA news agency: “Although pension wealth of more than £1 million will seem a huge amount to most people, probably more than a million people of working age can expect to breach that threshold based on current policies.

“What people need in pension planning is certainty, but with the lifetime allowance we have seen the opposite.”

Sarah Coles, personal finance analyst, Hargreaves Lansdown, said: “Most people can’t imagine a time when they will build up £1 million or more in their pension, so don’t ever think it will apply to them.

“However, you don’t need to be mega-wealthy to end up with a pension pot of this size.

“Someone committing to sensible contributions throughout their working life, and investing their money thoughtfully, could end up breaching the limit and being punished with a tax bill. The Government shouldn’t be penalising this kind of behaviour, it should be encouraging it.”

Ms Coles added: “We need a wholesale review of pension taxation rules.”

Phil Brown, director of policy at the People’s Pension, said: “Freezing the lifetime allowance would be merely tinkering at the edges of policy.

“A full review of pension tax relief is required and, within this, the Government should be looking at ways of incentivising the lower paid and standard rate taxpayers to save, and a universal flat rate of pension tax relief could be the best way to do this.”

Jamie Jenkins, director of policy and external affairs at Royal London, said: “Given the economic backdrop, anything that raises tax income is understandable.

“However, it’s becoming painfully difficult for people approaching retirement to plan with any certainty when the rules are constantly changing around how much they can save.”

Watch: How much money do I need to buy a house?