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‘Axing the lifetime allowance should make pensions more useful as an IHT planning tool’

Paloma Kubiak
Written By:
Paloma Kubiak
Posted:
Updated:
16/03/2023

In a surprise move, the Chancellor confirmed the pension lifetime allowance would be abolished, removing the current £1m limit. Experts say this improves the attractiveness of pensions as a tool for Inheritance Tax purposes.

The lifetime allowance is the maximum amount you can save into a pension without having to pay an additional tax charge.

It currently stands at £1,073,100 after being hacked from £1.8m in 2012, before being frozen by the then Chancellor Rishi Sunak with this lower figure due to remain until 2026.

But in a big U-turn and in a surprise move as reports suggested it would be increased to between £1.5m and £1.8m, Chancellor Jeremy Hunt went one step further by abolishing the lifetime allowance in yesterday’s Spring Budget.

The LTA charge will be removed from 6 April 2023 before being abolished altogether in a future Finance Bill.

Inheritance tax grab set to increase

For industry experts, this ‘rabbit out the hat’ first off improves the attractiveness of pensions for people, but secondly, it also means pensions can play a greater role when it comes to Inheritance Tax planning.

Indeed, forecasts from the Office for Budget Responsibility (OBR) reveal increased estimates for the Government’s IHT grab over the next six years. The Treasury is expected to rake in nearly £3bn more than initial estimates given in November 2022, with a total tax take of £45bn predicted, up from £42bn.

Further, by 2027/28, around 47,000 deaths (6.7% of deaths) are expected to trigger an IHT charge, up from the estimated 4.1% in 2020/21.

Stephen Lowe, group communications director at retirement specialist Just Group, said: “What the Chancellor gives with one hand he, inevitably, takes with the other. So while pension allowances soar as their restrictions were ripped away in this Budget, the freeze on IHT thresholds continues to hoover up an ever-growing proportion of estates. It means around one in every 15 deaths are now expected to become liable for an IHT charge by 2027/28. That’s a major boost for Government coffers.

“It is yet another reminder for people of the importance of regularly assessing the value of their estate. This should include getting an up-to-date valuation of any owned property given the substantial house price increases generated through pandemic.”

Pensions a more useful IHT planning tool

For Dean Butler, managing director for customer at Standard Life, the Budget LTA news “has supercharged the attractiveness of defined contribution pensions as a means of passing on wealth”.

He explained that by removing the lifetime allowance, there’s scope to pass on an unlimited sum for those who die before the age of 75 tax-free or at the beneficiary’s marginal rate after that age.

“Given beneficiaries have the ability to leave pension assets untouched, it’s possible people will be able to pass pension wealth across multiple generations in the long-run. Whether a future Government would introduce a cap on this sum remains to be seen,” he said.

Gavin Jones, chartered financial planner at Old Mill, explained that currently, in most circumstances, the money in your pension fund is not included in your estate for IHT when you die, “so the removal of the LTA has led to comments that pensions may be more useful as an IHT planning tool”.

However, he added there has been very little detail on the changes so far.

“While we wouldn’t expect to see changes to the IHT treatment, perhaps more importantly, Labour have already said if they are the next Government, they would reverse the blanket lifetime allowance change in favour of a more targeted scheme for NHS staff.

“This makes future planning very difficult and for an important decision like this we would urge people to take advice about their individual circumstances.

“Good IHT planning will be different for everyone but can comprise of a combination of different options, which may include gifting to family or charity, putting assets in a trust, taking out a life insurance policy, if indeed they want to do anything at all,” Jones said.