Just before the first reductions, the annual allowance and lifetime allowance were £255,000 and £1.8m, respectively. With reasonably modest growth of 3 per cent (and admittedly rather crude calculations), an investor could reach the lifetime allowance with tax relievable contributions within about seven years.
Contrast that with last tax year, when the annual allowance was £40,000 and the lifetime allowance was £1.25m. Using the same calculations, an investor using their full annual allowance each year would now need 23 years to reach the lifetime allowance.
Tapering rules
A high earner subject to the tapering rules could have an annual allowance as low as £10,000 from this tax year onwards. Such an individual would need 47 years to reach a lifetime allowance of £1m.
With the recent pace of changes to the rules, it seems unlikely that the lifetime allowance will exist in its current form in five years’ time – let alone in five decades. Therefore the recent drops in the lifetime allowance primarily affect those who are already nearing the end of their retirement savings journey and have made most, if not all, of their contributions.
These are the investors for whom the lifetime allowance feels little more than an unfair, last-minute shift of the goalposts or a punishment for good investment performance.
At the same time, we are constantly being told that people are not saving enough for their retirement. Every week there seems to be a new statistic about the number of people approaching retirement age with little-to-no pension provision, or the proportion of younger people who feel they’ll never be able to retire. The government says that it wants to encourage investors to save more towards their retirement.
However, many would argue that the greatly reduced annual allowance, alongside its various spin-off rules and transitional arrangements, is putting people off engaging with pension planning.
There have been comments suggesting the rules don’t match the message of saving more, as the annual allowance now prevents investors from saving as much as they need to.
No limitations
Of course, neither the annual or lifetime allowance actually prevents anything. While their purpose is to limit the pension tax advantages enjoyed by each individual, they are not, in themselves, limitations.
There is no limit on how much a person can contribute to their pensions each year, nor on the amount of pension benefits someone can receive during their lifetime.
Despite this, a lot of time and effort goes into staying within the allowances. Again, this made more sense a few years ago: both allowances were high enough that the majority of investors couldn’t have exceeded them, even if they’d like to.
Savers became used to thinking of the allowances as maximums, and this view stuck as the allowances began to drop. However, the allowances are now low enough that this view could interfere with investors’ retirement plans.
