Treasury estimated to earn more revenue due to inflation and freezing of lifetime allowance

Pension tax relief is limited by a lifetime allowance (LTA). LTA is the maximum that an individual can draw from their non-state pension without paying taxes throughout their lifetime. The current LTA is £1,073,100.

If the value of your pension exceeds the LTA, you will be faced with an extra charge. The value in excess of the LTA will be taxed in 2 ways depending on how you decide to withdraw the money. If you take it as a lump sum, the tax charge is 55% with no further tax charges. However, if you take it as a regular payment such as an annuity, the tax charge is 25% although this is on top of the usual income tax applied to regular income. The government earns money in these 2 ways.

In the 2021 Budget, it was announced that the LTA would be frozen at £1,073,100 for 5 years up to and including 2025/26. The government expected this policy to raise revenue of around £990 million. However, this expectation was calculated under the assumption that inflation would be 2% or less each year till 2025/26. This is not the case as recent inflation figures are well above 2%. Since the LTA does not move in line with inflation, the Treasury is likely to earn more revenue than the previous estimate of £990 million. LCP has estimated that the Treasury is likely to earn revenue of more than £2 billion.

The number of individuals exceeding the LTA is likely to increase due to several reasons. One reason is that due to inflation, purchasing power is reduced and therefore individuals who wish to maintain their spending power will save more in their pension. Another reason could be due to increased inflation, if wages also increase then an individual’s contributions will also increase and may cause them to exceed the LTA.