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BRIEFING PAPER
Number 5901, 12 March 2021
Pensions: annual and By Djuna Thurley
lifetime allowances
Contents:
1. Introduction
2. Reductions in the AA and LTA
3. Annex: The Labour
Government’s proposals -
2009/10
www.parliament.uk/commons-library | intranet.parliament.uk/commons-library | papers@parliament.uk | @commonslibrary2 Pensions: lifetime and annual allowance
Contents
Summary 3
1. Introduction 4
1.1 Cost of pension tax relief 5
1.2 Pension tax simplification 6
Lifetime allowance (LTA) 7
Annual allowance (AA) 8
Scope 9
1.3 Calls for reform 10
2. Reductions in the AA and LTA 11
2.1 Summary of changes since 2010 11
2.2 LTA reduced to £1.5m, AA to £50,000 15
June 2010 Budget 15
Consultation 16
October 2010 – details announced 18
Responses 19
Finance Act 2011 20
Debate on further reform 22
2.3 LTA reduced to £1.25m, AA to £40,000 23
2.4 LTA reduced to £1m from April 2016 and linked to prices from 2018 26
Budget 2015 26
2.5 LTA frozen from 2021/22 to 2025/16 29
Finance (No.2) Bill 2019/21 32
2.6 Money purchase annual allowance 32
2.7 The tapered annual allowance 33
3. Annex: The Labour Government’s proposals - 2009/10 37
3.1 Budget 2009 37
Comment 38
Debate in Parliament 39
3.2 “Anti-forestalling” provisions – Finance Act 2009 40
Debate in Parliament 40
3.3 Consultation on implementation – Pre-Budget Report 2009 41
Comment 42
Government response to consultation 42
3.4 Finance Act 2010 43
3.5 2015 election manifesto 44
Cover page image copyright: No attribution required / image cropped3 Commons Library Briefing, 12 March 2021
Summary
Pension tax relief works on the principle that contributions made to someone’s pension
fund are exempt from tax, while the income paid out from the fund is liable to tax.
Pension contributions made by individual employees are usually paid out of pre-tax salary,
so tax relief is received at the individual’s marginal tax rate. The main limits that apply are
the lifetime allowance (LTA) and annual allowance (AA). At introduction in 2006, the AA
was set at £215,000 and the LTA at £1.5 million (Finance Act 2004, s218 and 228). Both
were set to increase in stages, with the LTA reaching £1.8m and the AA £255,000 by
2010 (Budget 2004, para 5.45). However, since 2010, both allowances have been
reduced:
• The standard LTA reduced from £1.8m to £1.5m in April 2012, then to £1.25
million in 2014. It was then reduced to £1 million in April 2016, to then rise in line
with inflation from April 2018. However, in Budget 2021 the Chancellor announced
that it would be frozen at its current level of £1,073,100 until April 2026 (HM
Treasury, Budget 2021, March 2021, para 2.77). Legislation for this is in the Finance
(No 2) Bill 2019/21, s28
• The standard AA reduced from £255,000 to £50,000 (April 2011) and to £40,000
(April 2014).
• People who have flexibly accessed a defined contribution (DC) pensions pot are
subject to a lower money purchase annual allowance – initially set at £10,000 but
reduced to £4,000 from April 2017.
• From April 2016, there is a tapered AA for individuals with ‘adjusted income’ over
£150,000. Changes to mitigate its impact - increasing the threshold levels of income
at which it applies – and a reduction in the minimum AA were legislated for in the
Finance Act 2020, s22.
Since 2016/17, the cost of pension tax relief as a proportion of GDP has remained broadly
flat. Auto-enrolment, which saw approximately 10 million people brought into pension
savings via their employer, placed an upward pressure on costs. Restrictions to pensions
tax relief for higher earners - through the annual allowance, tapered annual allowance
and lifetime allowance – is reflected in the downward shift from 2015-16 to 2016-17.
(HMRC, Estimated cost of tax reliefs, 30 October 2020, p23).
However, commentators in the pensions industry have expressed concern about the
impact of repeated changes in the AA and LTA on the complexity of the system and
people’s capacity and confidence to plan for retirement (see Budget responses from ABI;
PLSA; ACA, 3 March 2021).
Concerns about the impact of the tapered annual allowance on some higher earning
public servants, in particular senior NHS clinicians, and the changes made in Budget 2020,
are discussed in more detail in Pension tax rules – impact on senior NHS clinicians and GPs,
Library Briefing Paper, Commons Library Briefing Paper, CBP 8626, March 2020.
The debate on wider reforms and information on the cost and distribution of pension tax
relief is in Library Briefing Paper CBP 7505 Reform of pension tax relief (Feb 2020)4 Pensions: lifetime and annual allowance
1. Introduction
The tax treatment of pensions follows an “exempt, exempt, taxed (EET)
model”:
Exempt - Pension contributions by individuals and employers
receive tax relief and employer contributions are exempt from
national insurance contributions. The main limits applying are the
annual allowance (AA) and lifetime allowance (LTA) – which were
introduced under the Finance Act 2004 as part of the pension tax
simplification reforms;
Exempt - No tax is charged on investment growth from pension
contributions; and
Taxed - Pensions in payment are taxed as other income, but
individuals are able to take up to 25% of their pension fund as a
lump sum on retirement. 1
A general overview can be found on Gov.UK – Tax on your private
pension contributions. There is more detail in HMRC’s Pension Tax
Manual.
There are differences in the rules as they apply to:
• Defined contribution (DC) or money purchase schemes, where
you build up a pot of money that you can then use to provide an
income in retirement. The income you might get depends on
factors including the amount you pay in, the fund’s investment
performance and the choices you make at retirement.
• Defined benefit (DB) schemes, where the amount you are paid
depends on how many years you have worked for your employer
and the salary you’ve earned.
1
HM Treasury, Removing the requirement to annuitise by age 75, July 2010, para 2.3;
Bill 97-EN, page 25 Commons Library Briefing, 12 March 2021
1.1 Cost of pension tax relief
In 2017/18, an estimated £37.2 billion in tax relief was provided on
contributions to approved pension schemes. In the same year, £18.3
billion in tax was collected on private pensions in payment. National
Insurance (NI) relief on employer contributions cost £16.5 billion. 2
HMRC estimates of cost of tax relief on pensions, 2017/18p
£ billion
Income tax relief on:
Occupational Scheme Contributions
By Employees 4.2
By Employers 18.6
Personal Pension Scheme Contributions
By Employees 1.6
By Employers 5.6
Contribution to PPs and RACs by self employed 0.5
Investment income of pension funds 6.7
Total reliefs 37.2
Less tax liable on:
Pension payments 18.3
Total (net) reliefs 19.0
Memorandum item
National Insurance relief on employer contributions1 16.5
notes:
p provisional figures
1
This is a combination of National Insurance relief for employers on the pension
contributions they make as well as the saving for individuals from the employers
contributions not being treated as part of their gross income and subject to
employee National Insurance contributions.
source:
HMRC. Cost of Registered Pension Scheme Tax Relief. PEN6
While it could be argued that the net cost to the Exchequer was £19
billion (£37.2 bn minus £18.3 bn, the difference is due to rounding),
HM Treasury explains that this could misrepresent the actual cost to the
government each year:
First, the income received by the government from pensions in
payment will in all likelihood come from pensions which received
tax relief many years ago. Therefore, subtracting it from the gross
costs of relief provided on pensions today may not provide an
appropriate estimate of the net cost. Second, tax rates of
individuals may change over their lifetime and therefore the rate
of relief they receive may not correspond to the amount of tax
they ultimately pay on their pension. 3
As the Pensions Policy Institute has pointed out, these are ‘snapshot’
figures. Care needs to be taken in extrapolating any potential savings
from reform. For example, in the absence of tax relief, many pension
contributions might be redirected to other tax efficient vehicles such as
ISAs, or spent. 4
2
These figures are the most recent available. HMRC, Registered pension schemes cost
of tax relief (PEN 6), September 2019
3
HM Treasury, Strengthening the incentive to save: a consultation on pensions tax
relief, Cm 9102, July 2015
4
PPI, Tax Relief and Incentives for Pension Saving, 20046 Pensions: lifetime and annual allowance
Changes over time
Since 2016/17, the cost of pension tax relief as a proportion of GDP has
remained broadly flat. Auto-enrolment placed an upward pressure on
costs, while restrictions to pension tax relief for higher earners created a
downward pressure:
The nominal cost of registered pension schemes decreased from
2015-16 to 2016-17, followed by a gradual increase in nominal
cost. Since 2016-17 the cost as a proportion of GDP has remained
broadly flat. The two main impacts on costs during the time
period are automatic enrolment and pensions measures, which
have generated upward and downward pressures on cost
respectively. Automatic enrolment over the period 2012-13 to
2018-19 saw approximately 10 million people being brought into
pension savings via their employer. Minimum contribution rates
for the individual and the employer have also increased between
2016-17 and 2019-20. Restrictions to pensions tax relief for
higher earners through the Annual Allowance, Tapered Annual
Allowance and Lifetime Allowance is reflected in the downward
shift from 2015-16 to 2016-17. 5
The number of LTA charges paid by pension schemes through the
Accounting for Tax return in 2017/18 was 4,550 - up from 940 in
2012/13. The total amount paid was £185 million. 6
For more information on costs, see Reform of pension tax relief,
Commons Library Briefing Paper, CBP-7505, Feb 2020.
1.2 Pension tax simplification
For background, see
A major reform of the system was the introduction of the ‘pension tax Pension tax
simplification’ regime from 6 April 2006 (‘A day’) under the Finance Act simplification,
2004 (FA 2004). This replaced eight different tax regimes governing Commons Library
pensions with a single set of rules applying across pension schemes. The Briefing Paper CBP-
2984, 11 December
aim was to simplify the system and put people in a better position to
2008
make informed choices about pension saving. 7
Previously, there had been a range of limits on annual contributions and
final benefits in pension schemes. These would be replaced by annual
and lifetime limits, applying across pension schemes, on the amount of
savings eligible for tax relief. The rationale for this reform was set out at
the time as follows:
4.2. Instead of the current plethora of limits, people will be able
to get full tax relief on all contributions to pensions. The current
limits on annual pension contributions and final benefits will be
replaced by a single lifetime limit on the total amount of pension
savings that can benefit from tax relief. This will be
complemented by a light touch compliance regime with an annual
limit on the value of the increase in each person’s pension rights
that qualify for tax relief.
4.3 These rules will only limit the amount of tax-privileged
pension. Those who wish to save more will enjoy the flexibility to
do so, but will not benefit from the additional tax reliefs in the
5
HMRC, Estimated cost of pension tax reliefs, October 2020, p23
6
HMRC, Table 8: Lifetime allowance statistics, Sept 2019
7 HM Treasury, Simplifying the taxation of pensions, December 20027 Commons Library Briefing, 12 March 2021
longer-term. This removes the requirement on pension schemes to
carry out regular checks against tax limits. Instead schemes will
carry out one single test against the lifetime limit, levying a
recovery charge on any pension savings that exceed this limit.
Pension savers will be responsible for checking inflows into their
pension funds against the annual limit and, in the few cases
where these limits are exceeded, account for any tax due. 8
The two limits set were the annual and lifetime allowances:
• The annual allowance (AA) limits the amount of annual pension
savings that benefit from tax relief. There is a tax charge if
contributions or the value of benefits accrued in a year, exceed
the AA. 9
• The lifetime allowance (LTA) limits the amount of pension saving
over an individual’s lifetime that can benefit from tax relief.
Pension savings are tested against the LTA at ‘benefit
crystallisation events’, for example, when an individual becomes
entitled to a lifetime annuity. 10
The legislation is in the Finance Act 2004 (part 4, chapter 5). Detailed
guidance is in HMRC’s Pension Tax Manual – Lifetime Allowance and
Annual Allowance.
Lifetime allowance (LTA)
In December 2002, the Labour Government proposed to set the LTA at
a level broadly equivalent to the maximum under existing occupational
pension rules:
4.10 The Government intends to set the control level for the value
of an individual’s pension fund at retirement at £1.4 million. This
amount is broadly equivalent to a maximum pension at the date
of implementation under the current occupational pension rules
for a man of 60 drawing an indexed pension and providing a
surviving spouse’s pension. It will be indexed to keep pace with
inflation – as the earnings cap is now. For most people this limit
will be well above the pension they expect to get at retirement. 11
The LTA would be increased annually in line with prices. 12 There would
be transitional arrangements for those who had already accrued rights
in excess of £1.4 million. 13
In the Pre-Budget Report 2003 the Government announced that it had
asked the National Audit Office (NAO) to look into concerns that more
people would be affected than the Government had estimated. 14 In
March 2004, the NAO confirmed that, using a 20:1 valuation factor, a
lifetime allowance of £1.4 million was broadly equivalent to the
maximum occupational pension allowable under the existing regime. 15
In its Budget on 17 March 2004, the Government announced that the
8
Ibid, see also para 2.22-8
9
FA 2004, s227; HMRC, Registered Pension Schemes Manual, RPSM06100000
10
FA 2004, s216; RPSM11200000
11
HM Treasury, Simplifying the taxation of pensions: increasing choice and flexibility for
all, December 2002
12
Ibid, para 1.32
13
Ibid, Annex C
14
HM Treasury, Pre-Budget Report 2003, para 5.60
15
NAO press release, The Government’s estimates of the pensions lifetime allowance, 9
March 20048 Pensions: lifetime and annual allowance
LTA would be set at £1.5 million for the first year, rising to £1.8 million
by 2010. 16 It would be reviewed quinquennially. 17
A breach of the LTA leads to a lifetime allowance charge of:
• If the excess is a pension, 25% of the excess.
• If the excess is a lump sum, 55% of the excess.
• Responsibility for paying is joint – between the scheme
administrator and member. 18
DB pension rights are valued against the LTA by applying a flat factor of
20:1 – meaning that an annual increase in pension of £1,000 is deemed
to be worth £20,000. 19
The rules are explained in HMRC’s Pension Tax Manual – Lifetime
allowance and the lifetime allowance charge: essential principles.
Annual allowance (AA)
The AA limits the amount of annual pension savings that benefit from
tax relief. Where an individual’s ‘total pension input amount’ exceeds
the AA, there is a charge on the excess. Before April 2011, the charge
was 40%. From April 2011, it is the individual’s marginal tax rate. 20
The AA was initially set at £200,000 – a level that was not expected to
affect most savers. The Labour Government said:
4.19 Such a high annual limit will be quite academic for most
people. No one can get tax relief on personal pension savings of
more than about £40,000 a year now; and very few people in
occupational schemes, probably fewer than 1,000 have their
pension rights raised by £200,000 or more in a single year. So this
will not affect the vast majority of people […] 21
The standard AA has since been reduced on a number of occasions and
a different level of AA can now apply: i) to people with high incomes;
and ii) to individuals with DC pension savings who have started to draw
down their savings – see below.
For individuals in defined contribution (DC) pension schemes, it is
reasonably straightforward to determine how much they are
contributing to a pension. However, this is not the case for defined
benefit (DB) schemes, where individuals build up pension benefits based
on salary and length of service. The Labour Government proposed
measuring DB pension rights against the AA, using a flat factor of 10:1
(meaning that for each £1,000 in annual pension benefits is deemed to
16
HC Deb 17 March 2004, c 329; HM Treasury, Budget 2004, para 5.45
17
Ibid
18
HMRC, Pension Tax Manual, The lifetime allowance and lifetime allowance charge
19
HM Treasury, Simplifying the taxation of pensions: the Government’s proposals,
December 2003, para 1.17; Finance Act 2004, s216, Sch 32 and s276
20
FA 227 (as amended from April 2011 by FA 2011, Sch 17 (3)); Pension Tax Manual –
annual allowance
21
HM Treasury, Simplifying the taxation of pensions: increasing choice and flexibility
for all, December 2002, para 4.179 Commons Library Briefing, 12 March 2021
be worth £10,000. 22 This was changed to 16:1 in the Finance Act 2011,
as discussed below. 23
For more detail, see HMRC’s Pensions Tax Manual, Annual allowance:
essential principles.
Scope
Constituents sometimes ask whether these rules apply to MPs and other
high earning public servants, such as senior civil servants and judges.
The answer is that the rules apply to registered pension schemes, which
includes the MPs’ Pension Scheme and the Civil Service Pension For more detail, see
Judges Pension
Scheme. 24
Schemes, Commons
The pension scheme for judges introduced under the Judicial Pensions Library Briefing Paper,
and Retirement Act 1993 (JUPRA) is de-registered for tax purposes. 25 CBP 8540, Feb 2020
This means that contributions do not attract tax relief and pensions built
up are not subject to the LTA and AA. In advance of the implementation
of pension tax simplification in April 2006, the then Lord Chancellor,
Lord Falconer, said that this was “in the best interests for members.”
They would be compensated for the loss of tax relief by means of a
long-service award when they neared retirement. 26
The New Judicial Pension Scheme (NJPS) introduced in 2015 was
registered. 27 The Coalition Government said that reform was
“unavoidable given the unprecedented pressures on the national
finances” and that there could be “no question of protecting the
judiciary from reforms in ways which [it was] not seeking to do for other
high paid groups across the public service.” 28
However, following a successful legal challenge to the transitional
arrangements for the 2015 scheme, 29 the Ministry of Justice plans to
introduce a new pension scheme to which all judges accruing benefits
under existing schemes 30 would transfer from April 2022 subject to the
necessary parliamentary approval. Although the reformed scheme will
have many features in line the main principles of the 2015 pension
reforms, it will retain some key elements of JUPRA, notably its tax-
unregistered status. 31
22
HM Treasury, Simplifying the taxation of pensions: the Government’s proposals,
December 2003; Finance Act 2004, s234
23
Section 66 and Sch 17
24
Explanatory Memorandum to SI 2006 No. 920, para 7.1; MPs’ CARE Pension
Scheme – PCPF - Guide for scheme members (May 2015); Civil Service Pensions,
Your alpha benefits explained
25
Judicial Pension Scheme 1993 – scheme guide, Nov 2014, p4
26
HL Deb 15 December 2005, cc WS151-152
27
MoJ, New Judicial Pension Scheme 2015 - consultation, June 2014
28
Judicial Pension Reform – Equality Impact Assessment, 2014
29
Lord Chancellor and Secretary of State for Justice v McCloud and Mostyn. Home
Secretary and Welsh Ministers v Sargeant. 2018 EWCA Civ 2844
30
The existing schemes are: JUPRA, the Fee Paid Judges Pension Scheme and the New
Judges Pension Scheme 2015
31
Ministry of Justice, Consultation on a reformed judicial pension scheme, Updated
Feb 202110 Pensions: lifetime and annual allowance
1.3 Calls for reform
In 2015, the Government consulted on reforming pension tax relief,
with the aim of strengthening the incentive to save as well as offering
clear, simple and transparent incentives. 32 However, in Budget 2016,
the Chancellor did not announce any fundamental change to the tax
treatment of pension on the grounds that there was ‘no consensus’. 33
In July 2018, the Treasury Select Committee recommended that the
Government return to the question of whether there should be
fundamental reform of pension tax relief. In the mean-time, it thought
the system could be improve through incremental reform and that the
Government should give “serious consideration to replacing the lifetime
allowance with a lower annual allowance, introducing a flat rate of
relief, and promoting understanding of tax relief as a bonus or
additional contribution.” 34 In its response on 12 October 2018, the
Government said that “no consensus for either incremental or more
radical reform of pension tax relief has emerged since the consultation
in 2015.” This is discussed in Library Briefing Paper CBP-7505 Reform
of pension tax relief (Feb 2020).
In October 2019, the Office of Tax Simplification said that lifetime and
annual allowance charges could present significant complexities for
pension savers in different circumstances. It questioned whether both
should apply:
3.74 Given the policy aim of limiting the overall amount of
pensions savings tax relief available to any one individual, applying
both the AA and LTA charges to pensions may be unnecessary.
3.75 One possibility would be for the AA to apply in relation to
DC schemes and the LTA in relation to DB schemes, reflecting the
most natural operational and administrative fit between the two
approaches and the type of scheme involved. 35
It recommended that HMRC work to improve the guidance and that the
Government should conduct a review against policy objectives:
Recommendation 8 The government should continue to review
the annual allowance and lifetime allowances and how, in
combination, they deliver against their policy objectives, taking
account of the distortions (such as those affecting the National
Health Service) they sometimes produce. 36
There has been no official response to this report. 37
As discussed below, there have been calls for reform of the tapered
annual allowance and the money purchase annual allowance.
32
HM Treasury, Strengthening the incentive to save: reform of pension tax relief, Cm
9102, July 2015
33
HC Deb 16 March 2016 c966
34
HC 565, July 2018
35
Office of Tax Simplification, Taxation and Life Events, October 2019
36
Ibid
37
PQ10421 4 February 202011 Commons Library Briefing, 12 March 2021
2. Reductions in the AA and LTA
2.1 Summary of changes since 2010
There have been a series of reductions in and changes to the AA and
since October 2010:
• In October 2010, the Coalition Government announced that the
AA would reduce from £255,000 to £50,000 from 2011 and the
LTA from £1.8m to £1.5m from 2012. This was legislated for in
the Finance Act 2011 (s66-7 and Sch 17 and 18).
• In the Autumn Statement 2012, it announced that from 2014-15,
the LTA would reduce from £1.5 million to £1.25 million and
further reduce the AA from £50,000 to £40,000. This was
legislated for in the Finance Act 2013 (ch 4).
• In the March 2015 Budget, it announced a reduction in the LTA
from £1.25 million to £1 million from April 2016 and to increase it
in line with prices from 2018-19 (para 1.232). Provision for this
was in the Finance Act 2016 (s19 and Sch 4).
• A reduced ‘money purchase annual allowance’ (MPAA), initially
set at £10,000, was introduced as part of the pension freedoms
under the Taxation of Pensions Act 2014 (Sch1, Part 4). The effect
is that if you start to take money from a defined contribution
pension, the amount you can pay into a pension and still get tax
relief reduces to the level of the MPAA. 38 The rationale was to
prevent recycling of tax relief (where an individual uses their tax-
free lump sum to make further tax-relieved pension
contributions). 39
• The Summer 2015 Budget announced a ‘tapered annual
allowance’ for those whose taxable income exceeds £110,000
and whose ‘adjusted income’ (taxable income plus the value of
annual pension growth) exceeds £150,000. The standard AA is
reduced by £1 for every £2 of adjusted income over a threshold
figure, tapering down to a minimum of £10,000. (PQ 207 9
January 2020). This was introduced from April 2016 under the
Finance (No. 2) Act 2015 (s23 and Sch 4).
• In the Spring Budget 2017, it was announced that the MPAA
would reduce from £10,000 to £4,000 from April 2017. This was
legislated for in the Finance (No. 2) Act 2017 (s7).
• In the Budget 2020, the Government announced increases in the
income limits used in calculating a tapered annual allowance and
a decrease in the minimum tapered AA. 40 This was legislated for
in the Finance Act 2020, s22.
38
Gov.UK, Tax on your private pension contributions/annual allowance/lower
allowance if you take money from a pension pot
39
HM Treasury, Freedom and choice in pensions: Government response to
consultation, Cm 8901, July 3014, para 2.27; See Library Briefing Paper RP 14/57
Taxation of Pensions Bill 2014-15 (October 2014), section 4.7
40
HM Treasury, Budget 2020, HC 121, March 2020, para 2.183-5; HMRC, Pension tax
changes to income thresholds for calculating the tapered annual allowance from 6
April 2020, March 202012 Pensions: lifetime and annual allowance
• In Budget 2021, the Government announced that the level of the
lifetime allowance would remain frozen at its current rate of
£1,073,100 until April 2026. 41
The table below shows the levels of the standard LTA and AA and the
tapered AA since introduction:
£
Tapered
Standard Standard
annual
Lifetime Annual
allowance
Allowance Allowance
minimum*
2006/07 1,500,000 215,000
2007/08 1,600,000 225,000
2008/09 1,650,000 235,000
2009/10 1,750,000 245,000
2010/11 1,800,000 255,000
2011/12 1,800,000 50,000
2012/13 1,500,000 50,000
2013/14 1,500,000 50,000
2014/15 1,250,000 40,000
2015/16 1,250,000 40,000
2016/17 1,000,000 40,000 10,000
2017/18 1,000,000 40,000 10,000
2018/19 1,030,000 40,000 10,000
2019/20 1,055,000 40,000 10,000
2020/21 1,073,100 40,000 4,000
2021/22 1,073,100 40,000 4,000
* The ta pered AA i ni ti a l l y a ppl i ed to i ndi vi dua l s wi th i ncomes
over £150,000. Thi s i ncome thres hol d wa s i ncrea s ed to
£200,000 from 2020/21
Mitigations
Lifetime allowance protection
Protection arrangements were put in place when the LTA was
introduced and at various stages when it has been reduced. 42
In its December 2003 document, Simplifying the taxation of pensions:
the Government’s proposals, the Labour Government said it would
introduce transitional arrangements for people who had already built up
large pension pots by A-day:
• Primary protection - People who already had pension rights in
excess of the LTA by ‘A-day’ would be able to register that value
as a percentage of the LTA. Expressing it in percentage terms
meant the value would be automatically indexed in parallel with
the indexation of the lifetime allowance.
41
HM Treasury, Budget 2021, HC 1226, March 2021, para 2.77
42
HMRC, Pension Tax Manual13 Commons Library Briefing, 12 March 2021
• Enhanced protection - Pre-A day pots (whether or not above the
LTA) would be able to register their pre-A day fund. Provided they
stopped contributing to any tax-relieved pension scheme, all post-
A-day increases would be protected from the recovery charge; 43
In 2010, announcing the reduction from £1.8m to £1.5m to take effect
from April 2012, a new form of protection - fixed protection’ - was
introduced, enabling individuals to apply for an LTA of £1.8 million:
Fixed protection (FP 2012)
FP 2012 fixes an individual’s lifetime allowance at £1.8 million so
benefits up to that amount can be taken without a charge.
Individuals with FP 2012 have only very limited opportunity to
accrue further pension benefits and will lose their FP 2012 in a
number of circumstances.
See PTM093000 for further details on FP 2012. 44
When the LTA was reduced further - to £1.25m in 2014 and to £1m in
2016 - fixed and individual protection arrangements were put in place:
Fixed protection 2014 (FP 2014)
FP 2014 fixes an individual’s lifetime allowance at £1.5 million so
benefits up to that amount can be taken without a charge.
Individuals with FP 2014 have only very limited opportunity to
accrue further pension benefits and will lose their FP 2014 in a
number of circumstances. See PTM093000 for further details on
FP 2014.
Fixed protection 2016 (FP 2016)
FP 2016 fixes an individual’s lifetime allowance at £1.25 million so
benefits up to that amount can be taken without a charge.
Individuals with FP 2016 have only very limited opportunity to
accrue further pension benefits and will lose their FP 2016 in a
number of circumstances.
See PTM093000 for further details on FP 2016.
Individual protection 2014 (IP 2014)
IP 2014 offers more flexibility than FP 2014 because it does not
restrict future pension savings. Individuals who had pension
savings of more than £1.25 million at 5 April 2014 gain a
personalised lifetime allowance equal to the value of their pension
savings on 5 April 2014 up to a maximum of £1.5 million.
See PTM094000 for further details on IP 2014.
Individual protection 2016 (IP 2016)
IP 2016 offers more flexibility than FP 2016 because it does not
restrict future pension savings. Individuals who had pension
savings of more than £1 million at 5 April 2016 gain a
personalised lifetime allowance equal to the value of their pension
savings on 5 April 2016 up to a maximum of £1.25 million.
See PTM094000 for further details on IP 2016. 45
43
HM Treasury, Simplifying the taxation of pensions: the Government’s proposals,
December 2003, chapter 5;
44
HMRC Pension Tax Manual, Protection from the lifetime allowance charge: essential
principles; HC Deb, 9 December 2010, c31WS
45
Pension Tax Manual, Protection from the lifetime allowance charge: essential
principles; HMRC, Reduction of pensions lifetime allowance, 9 December 201514 Pensions: lifetime and annual allowance
The option of individual protection was introduced to enable individuals
to carry on saving in their pension without losing protection.In some
cases, it might be possible for a member to have more than one type of
protection. 46
There is an overview of the rules in HMRC’s Pension Tax Manual,
Protection from the lifetime allowance charge: essential principles.
Primary legislation for the protection arrangements is in the Finance Act
2004, s 283 and Sch 36 (7), as amended. Further details of the rules,
including references to regulations are in the relevant part of HMRC’s
Pension Tax Manual.
Carry-forward of unused annual allowance
When bringing forward its proposals to reduce the annual allowance
(AA) in October 2010, the Coalition Government said it recognised that
the nature of defined benefit (particularly final salary) schemes could
lead to some individuals on low to moderate incomes exceeding the AA
– for example, on promotion. 47 It noted that:
1.5 It is relatively simple for individuals who are members of
defined contribution (DC) schemes to identify and control
contributions into their pension pot. However, the Government
recognises that this is more difficult for members of defined
benefit (DB) schemes, particularly traditional final salary schemes.
This is because DB pension-holders receive a future pension
promise determined by various factors including length of service,
scheme accrual rate, level of salary, and rate of salary increase. In
particular circumstances, the combination of these factors could
create uneven, and potentially sizeable, annual increases in
pension in certain years. 48
It considered whether past service should be ignored in the
circumstances but decided against. 49 Instead, it proposed that
individuals should be able to “offset excess contributions against
unused allowance from up to the previous three years.” 50
The Government recognised that there would be cases where a tax
charge would nonetheless arise. It therefore consulted on options to
“enable individuals to meet the charge out of their pension benefits,
rather than current income.” This could be done either when the charge
arose or at the point pension benefit crystallises. 51 In March 2011, it
announced that:
In line with the strong preference expressed by most respondents,
the Government have decided that where AA charges are met
from pension benefits, the tax should be paid at the point the
46
Pension Tax Manual, Protection from the lifetime allowance charge: essential
principles;
47
HM Treasury, Restriction of pension tax relief: a discussion document on the
alternative approach, July 2010, para 3.4
48
HM Treasury, Options to meet high annual allowance charges from pension benefits:
a discussion document, November 2010
49
HM Treasury, Restriction of pension tax relief: a discussion document on the
alternative approach, July 2010, para 3.4
50
HM Treasury, Restricting pensions tax relief through existing allowances: a summary
of the discussion document responses, October 2010, summary and para 3.6
51
HM Treasury, Options to meet high annual allowance charges from pension benefits:
a discussion document, November 2010, para 1.715 Commons Library Briefing, 12 March 2021
charge arises. In effect, schemes will have a considerable amount
of time to complete the payment process, with additional
flexibility being granted in the first year. Individuals with AA
charges above £2,000 will be able to elect for the full liability to
be met from their pension benefit. Schemes will be required to
operate this facility only where an individual has exceeded the AA
outright within that scheme in the relevant year. 52
The rules are explained in HMRC’s Pensions Tax Manual – Annual
allowance: tax charge: scheme pays: general.
2.2 LTA reduced to £1.5m, AA to £50,000
In Budget 2009, the Labour Government said that those on the highest
incomes already benefitted disproportionately from tax relief on pension
contributions and that this would be exacerbated by the introduction of
a new additional tax rate for people with incomes over £150,000 from
April 2010. It therefore proposed to restrict the tax relief on
contributions to people with incomes over £150,000, with effect from
April 2011. 53 However, representatives of the pension industry were
concerned at the complexity of its proposed approach. 54 This is
discussed in more detail in the Annex to this paper.
In its first Budget after the 2010 election, the Coalition Government
announced that it would investigate other ways of making the £3.5bn
savings the Labour Government had expected to achieve through the
restrictions it had introduced for higher earners. 55 Following
consultation, it decided to reduce the AA from £255,000 to £50,000
from 2011 and the LTA from £1.8m to £1.5m from 2012. 56 This was
legislated for in the Finance Act 2011 s66-7 and Sch 17-18.
June 2010 Budget
In his first Budget after the 2010 election, the new Chancellor of the
Exchequer, George Osborne, said he was committed to achieving the
same level of savings as would have been achieved through the
measures introduced by the Labour Government in the Finance Act
2010. However, it would investigate an alternative approach, possibly
by reducing the annual allowance (AA):
Many businesses are alarmed at the complexity this will introduce.
I have listened to those concerns. However, I must also protect the
£3.5 billion of revenues this policy was set to raise from high
income people. I will therefore work with industry on alternatives
ways of raising the same revenue, potentially by reducing the
Annual Allowance. 57
52
HC Deb, 3 March 2011, c31-2WS
53
HM Treasury, Budget 2009, HC 407, 22 April 2009, para 5.91-2
54
See, for example,“Pension providers warn of unintended consequences,” Financial
Times, 23 April 2009
55
HC Deb 22 June 2010 c179
56
HM Treasury, Restricting pensions tax relief through existing allowances: a summary
of the discussion document responses, October 2010, para 2.6 and 2.7
57
HC Deb 22 June 2010 c179; HM Treasury, Budget 2010, HC 61, June 2010, para
1.11816 Pensions: lifetime and annual allowance
Provisional analysis suggested that an AA in the range of £30,000 or
£45,000 would do this. 58 The Government would consult on how a
lower annual allowance might work:
Relevant issues for the Government to consider include:
• How pension accrual in DB schemes would be valued;
• Options to ensure basic-rate taxpayers are not subject to
the restriction, and to support hard cases cause by one-off
‘spikes’ in pension accrual’
• Whether and how there could be flexibility for individuals
over paying any charges that arise;
• How compliance and delivery will work in practice.
These and other policy design issues will have a bearing on the
revenue raised by the policy. In taking forward these discussions
the Government’s over-riding concern will be the delivery of the
fiscal set out above. 59
Legislation would be introduced before the summer recess to “repeal
through regulations the legislation passed at the Finance Act 2010.”
This would be done once the Government had decided on the detail of
its approach. There would be no changes to the anti-forestalling regime
as this broadly protected against forestalling risk. 60
The Budget resolutions included enabling the “high income excess relief
charge” (introduced by Finance Act 2010 to restrict pension tax relief
for higher earners) to be repealed. 61 This resolution was voted on, with
the Government winning by 366 votes to 247. 62
The announcement was welcomed as simpler and easier to
implement. 63
Consultation
In July 2010, the Government published a discussion document on its
proposed alternative approach. 64 Its overriding concern would be
delivery of its “fiscal objective.” Within these constraints, it would
balance other key objectives of fairness, simplicity and sustainability of
the pension tax regime:
Fairness between defined benefit (DB) and defined contribution
(DC) schemes is an important consideration. This needs to be
appropriately balanced against simplicity. The system should be
reasonably simple, both for individuals to understand and use,
and for schemes and HMRC to administer, and minimise
administrative burdens while ensuring effective compliance. It is
58
HM Treasury, Budget 2010, HC 2010, para 2.27
59
HM Treasury, Restricting Pensions Tax Relief, 22 June 2010
60
Ibid
61
HM Treasury, Notes on Budget Resolutions, 22 June 2010
62
HC Deb, 28 June 2010, c682
63
COIT Press Release, 22 June 2010, ‘Budget response: pension tax relief review
strongly endorsed by COIT’; NAPF Press Release, 22 June 2010, ‘Rethink on pension
tax relief welcome, says NAPF”; IFS post-budget presentations, 23 June 2010
64
HM Treasury, Restriction of pensions tax relief: a discussion document on the
alternative approach, July 2010; Supporting documents are here17 Commons Library Briefing, 12 March 2021
important to design a regime that can be introduced in April
2011. 65
A reduction in the AA to around £30,000 to £45,000 was proposed as
being likely to deliver the necessary yield. 66
Establishing a mechanism for valuing contributions to DB schemes
would be important:
2.8 For individuals in DC schemes it is straightforward to
determine the level of contributions put into a scheme over a
given period and to assess that against the AA. For DB schemes,
however, individuals accrue a right to an amount of annual
pension from pension age and a method is needed for calculating
the ‘deemed’ level of contributions associated with that right for
the purposes of testing against the AA. 67
The Government asked for views on the proposal to use a “flat factor”,
set at a higher level than at present:
2.12 If a flat-factor approach were to be continued, then the
Government believes that the valuation factor to be used should
be higher than the current level of 10. The Government will
consider further what the appropriate factor would need to be,
taking advice on the actuarial considerations from the
Government Actuary’s Department. Provisional analysis suggests
that the appropriate factor may need to be within the range 15-
20. 68
It had been suggested that past service should be stripped out for the
purpose of assessing DB pensions against the reduced AA. The
Government decided against this on grounds that it would:
[…] significantly reduce the amount of revenue the policy could
raise, and would leave too much scope for manipulation of
scheme design to avoid the AA restriction. It would also introduce
a major disparity between DB and DC schemes. With all else being
held constant, it would have no effect on the amount of annual
pension that could be acquired by DC contributions made up to
the level of the AA. But it could greatly increase the amount of
annual pension individuals in DB schemes could accrue over the
period before the AA was breached, particularly for those with
significant past service. 69
The Government expected that members of DC schemes would be able
to “aim off” the AA, by keeping their contributions below it but that
members of DB schemes would be less able to do so:
3.4 Members of DB schemes may have less ability to aim off the
AA, given that:
• the value of accrual is less easily controlled by the
individual, as it is a function of overall scheme design,
accrual rate and other factors that are not simply
discretionary saving decisions; and
• the value of new accruals can be uneven year on year, or
exhibit spikes (atypically large accruals in single years).
65
Ibid, para 1.2 to 1.6
66
Ibid, para 2.3
67
Ibid, para 2.8
68
Ibid
69
Ibid, para 2.1318 Pensions: lifetime and annual allowance
3.5 It is such spikes in pension benefits that might tip individuals
on low and moderate incomes, whose annual accruals are
typically well below the AA, over it in a single year. For example,
where they are a long-serving member of a DB scheme
experiencing a promotion, or other significant boost to their
pensionable salary, or for those benefiting from a substantial
enhancement to their pension rights. 70
Where high charges were incurred, options would be to allow payment
over multiple years or enabling schemes to pay the charge and reduce
benefits to recoup the cost. 71
October 2010 – details announced
On 14 October, the Government announced that the AA would be
reduced to £50,000 from April 2011 and the LTA to £1.5 million from
April 2012:
[…] A £1.5m LTA enables the AA to be set at £50,000,
generating around £4bn annual revenues in steady state, similar
to the previous Government’s plans, and thus protecting the
public finances. The Government believes that this will create a
fairer and more sustainable regime.
2.7 An AA of £50,000 is a level which far exceeds average annual
contributions to pensions, with around 100,000 pension savers
making annual pension savings in excess of this level. It will
impact on fewer individuals on lower incomes, and provide
individuals with greater flexibility to make their annual pension
contributions than allowed by a lower AA. The Government has
decided that the level of the AA will be set at £50,000 from April
2011, with a reduction in the LTA to £1.5m from April 2012.
Beyond the forecast period to 2015-16 the Government will
consider options for indexing the level of the AA. 72
For the purpose of the AA, deemed contributions to DB schemes would
be valued using a “flat factor” of 16 - meaning, broadly, that an
increase in annual pension benefit of £1,000 would be deemed to be
worth £16,000. 73
To prevent individuals who would typically have pension contributions
below the AA but exceed it in a single year, from facing a tax charge as
a result, the Government decided that individuals would be able to
carry-forward unused annual allowance from up to three previous years,
to offset against contributions in excess of the AA in a single year.
Carry-forward will be available against an assumed AA of £50,000
(with revaluation of DB accruals to reflect the new factor 16 and
uplifts of opening value) for the tax years 2008-09, 2009-10 and
2010-11 to enable individuals affected in the first years of the
regime to benefit from it. The three year carry forward will ensure
that individuals on moderate incomes who may otherwise have
been caught by a reduced AA should be able to smooth away any
spikes in pension accrual. 74
70
Ibid
71
Ibid, para 3.12
72
HM Treasury, Restricting pensions tax relief through existing allowances: a summary
of the discussion document responses, October 2010, para 2.6 to 2.7
73
Ibid, para 2.12
74
Ibid19 Commons Library Briefing, 12 March 2021
Decisions on other issues were announced:
• The Government had decided not to cap relief on contributions
below the level of the AA because it was “unwilling to introduce
unnecessary complexity and burdens into the pension tax relief
system.” 75
• Deferred members (i.e. early leavers with preserved pension rights)
would be excluded from the regime because to include them
would increase administrative complexity. In any case, there was
no increase in the value of their pensions attributable to ongoing
service and salary. 76
• There would be exemptions from the AA test in a year of death or
in which an individual was diagnosed with serious (terminal) ill
health. 77 However, there would be no exemption in case of
redundancy. 78
The Government would take action against certain intermediary vehicles
used to disguise remuneration and void, reduce or defer payment of
tax.” 79
Responses
The decision to reduce the AA by less than originally suggested, and to
consult on the LTA changes, was welcomed by the CBI. Professional
Pensions reported that the approach taken was “backed by industry”. 80
However, the then TUC General Secretary, Brendan Barber described
the proposals as a “big missed opportunity” to improve incentives to
save for basic rate taxpayers. 81
Reduced LTA - protection regime
On 9 December 2010, the Government set out its proposed protection
regime for individuals who had already built up pension savings in the
expectation of an LTA of £1.8 million:
This new "fixed protection" will give anyone the opportunity to
apply for a lifetime allowance of £1,800,000 instead of the
reduced lifetime allowance of £1,500,000 on the condition that
they no longer actively contribute to their pension or actively
accrue pension benefits (that is, broadly excluding annual
inflationary uprating). Individuals who are already entitled to
primary protection and/or enhanced protection will also continue
to receive their current levels of protection.
Draft clauses and draft guidance are being published today on the
reduced lifetime allowance, including the operation of "fixed
protection". It is intended that from 6 April 2012 individuals will
be considered "inactive" if they do not make or receive any
further contributions to a registered defined contribution pension
scheme, or build up additional annual pension over an allowable
75
Ibid para 2.8
76
Ibid para 2.13-6
77
Ibid para 2.18
78
Ibid para 2.19
79
Ibid para 2.29
80
Jenna Towler, ‘Tax relief restrictions backed by industry – Updated’, Professional
Pensions (£),14 October 2010
81
TUC Press Release, Pension tax relief measures a missed opportunity, 14 October
201020 Pensions: lifetime and annual allowance
"relevant percentage" in a registered defined benefit or cash
balance pension scheme. In order to prevent pension scheme rules
being amended following this announcement so as to allow for
artificially inflated annual increases to pensions rates the "relevant
percentage" is defined as being the rate of increase specified in
the scheme rules as at today's date, 9 December 2010. If no rate
is specified in the scheme rules, the "relevant percentage" will be
the annual percentage increase in the consumer prices index for
September in the previous tax year.
A revised set of draft clauses on the annual allowance, that were
previously published on 14 October, have also been published
today. This contains some additions and amendments, including
details of the proposed exemption from the annual allowance in
cases of severe ill health. 82
Payment of charges
Over the course of the consultation, the Government announced
measures to mitigate the impact of its proposals on those who risked
incurring charges under the new arrangements. For instance, the AA
was to be reduced by less than originally intended and people would be
able to carry forward unused allowances from up to three previous
years. However, the Government recognised that in “exceptional cases”
this mitigation would not be sufficient and consulted on options to give
individuals and schemes more flexibility over payment of charges. 83 On
3 March 2011, the Government announced its conclusions on this issue:
In line with the strong preference expressed by most respondents,
the Government have decided that where AA charges are met
from pension benefits, the tax should be paid at the point the
charge arises. In effect, schemes will have a considerable amount
of time to complete the payment process, with additional
flexibility being granted in the first year. Individuals with AA
charges above £2,000 will be able to elect for the full liability to
be met from their pension benefit. Schemes will be required to
operate this facility only where an individual has exceeded the AA
outright within that scheme in the relevant year. The Government
have given schemes flexibility in how they operate, but is clear
that any adjustment to an individual's pension benefit should be
fair to all scheme members. The detailed policy specification has
been set out in a summary of responses document and draft
clauses on which the Government welcome comment by 17
March. 84
The Pension and Lifetime Savings Association (PLSA) expressed concern
that the threshold for paying charges from the pension scheme had
been set at such a low level. 85
Finance Act 2011
The policy was confirmed in Budget 2011:
2.51 Restricting pensions tax relief – On 14 October 2010 the
Government announced that, from April 2011, the annual
allowance for tax-privileged pension saving will be £50,000 and
82
HC Deb, 9 December 2010, c31WS
83
HC Deb, 14 October 2010, c25-6WS
84
HC Deb, 3 March 2011, c31-2WS
85
NAPF Press Release,’ NAPF response to the Government’s details about changes to
tax relief’, 3 March 201121 Commons Library Briefing, 12 March 2021
that, from April 2012, the lifetime allowance will be £1.5 million.
On 3 March 2010, in response to an informal consultation, the
Government announced that individuals with annual allowance
charges over £2,000 will be able to meet these from their pension
benefit, with schemes paying the tax at the point the charge
arises. 86
Draft legislation was published for consultation. 87 The Government
estimated the impact of the changes as follows:
The overall number of pension savers who would potentially be
affected by the reduced AA is estimated to be around 100,000,
around 80 per cent of whom have incomes over £100,000. For
the remaining 20 per cent with incomes below £100,000, carry
forward of unused allowances will reduce or eliminate the charge
for many of these individuals. [...]
The individuals that will be affected to the largest degree from a
decrease in the LTA are those that have accrued pension assets
worth more than £1.5 million as they would need to stop
contributing to their pension in order to avoid a tax charge.
Estimates suggest that around 40,000 individuals have current
pension assets that are worth more than £1.5 million and will be
impacted in this manner (though some of these will already have
protection they took out due to the changes to pension legislation
in 2006). 88
The relevant provisions were included in clauses 66 and 67 and
Schedules 17 and 18 of the Finance (No 3) Bill 2011. The Bill was
published on 31 March 2011. 89
In debate, the then Treasury Minister, Mark Hoban, explained that the
changes would raise £16.6 billion over the period 2011-12 to 2015-16,
compared to £15.6 billion under the Labour Government’s plans. 90 It
would also, he argued, be simpler and fairer:
The previous Government’s approach to achieving a reduction in
pension relief introduced significant additional complexities to the
tax system; it undermined pension saving ad damaged UK
businesses and competitiveness. We believe that an approach
which limits the amount of tax relief for those who make the
highest contributions is better than restricting the rate of tax relief
available to those on incomes above an arbitrary threshold. In our
proposals, those whose pension contributions exceed £50,000 will
not receive any tax relief. Under proposals put forward by the
previous Government, even those earning the highest salaries and
paying the highest rate of tax would have received tax relief at a
rate of 20% per annum. 91
The Government expected that less than 1% of pension savers would
be affected. 92 As regards those at risk of exceeding the annual
allowance, the then Financial Secretary to the Treasury, Mark Hoban
explained:
86
HM Treasury, Budget 2011, HC 836, March 2011
87
HM Treasury, 2011 Budget, 23 March 2011 – archived webpage
88
HM Treasury, Restricting pensions tax relief – summary of impacts,
89
Explanatory Notes are here
90
Public Bill Committee, 7 June 2011, c478
91
Ibid, c479
92
Ibid, c48022 Pensions: lifetime and annual allowance
To reduce the likelihood of individuals exceeding the annual
allowance, we first set a more generous annual allowance than
originally proposed. Secondly, we ensured that individuals would
be able to carry forward any unused allowances from the previous
three years. Citing the right hon. Gentleman’s example, someone
who is out of the market for three years would effectively
accumulate a £50,000 annual allowance in each of those three
years, which they could use in a year in which they were in
employment and pay higher pension tax contributions. Similarly,
someone setting up a business could achieve exactly the same
goal. They could choose not to make pension contributions for
three years and use the accumulated unused annual allowance to
make a larger contribution in one particular year.
We recognise that there may be circumstances, despite the
mitigation measures, in which people pay a higher charge.
Individuals with an annual allowance charge exceeding £2,000
will be able to elect to meet their full charge from their pension
benefits instead. That recognises that a substantial increase in
pension wealth has led to the liability in the first place. 93
In steady state, the reductions in the annual allowance in 2011-12 and
lifetime allowance from 2012-13 are “forecast to reduce the cost of
relief by around £4 billion per annum in the steady state, most of which
relates to individuals with incomes over £150,000.” 94
The Finance Act 2011 received Royal Assent on 19 July 2011.
HMRC guidance explained how the rules would work:
• Annual allowance guidance
• Restriction of tax relief: PIPs and carry forward – further
information (December 2010)
• Lifetime allowance guidance
More detail is in HMRC’s Registered Pension Schemes Manual –
technical pages: Annual allowance from 2011.
Debate on further reform
On 14 February 2012, the Financial Times reported that Ministers were
considering a further reduction in the annual allowance. 95 In his Budget
2012 the Chancellor of the Exchequer, George Osborne, announced
that from April 2013 the additional rate of income tax paid by
individuals on income in excess of £150,000 would be cut from 50% to
45%. 96 No change to pension tax relief was announced.
Calls for reform continued in the run-up to the Autumn Statement, with
the Institute for Fiscal Studies calling for a clear and robust long-term
strategy, setting out a clear sense of direction. 97
However, the PLSA argued that there should be no further changes:
93
Public Bill Committee, 7 June 2011, c482
94
HC Deb 18 July 2011 c541W
95
Kiran Stacey, ‘High earners’ pension relief targeted’, Financial Times, 14 February
2012
96
HM Treasury, Budget 2012, 21 March 2012, para 1.184
97
Paul Johnson, ‘If you want to tax the rich, do it fairly’, Financial Times, 22 November
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