If you’ve been saving into a pension during your working life, you might be closer to the Lifetime Allowance than you think. Going over the threshold could mean facing tax charges on future income and, as a result, some are opting to leave their schemes. But is that the best option?

What is the Lifetime Allowance?

Currently set at £1.03 million, the Lifetime Allowance is the total amount you can save into a pension over your life. It can seem far-off, but when you consider we may pay into a pension over four decades, along with employer contributions, tax relief and potential investment returns, the value of your pension can be more than expected.

What happens if you exceed the Lifetime Allowance?

Legally you can exceed the Lifetime Allowance. But this means paying additional tax. If, when you start taking your pension, the value exceeds the Lifetime Allowance, the excess benefits will be subject to:

• 55% tax if the pension is taken as a lump sum
• 25% if withdrawn as an income

With this in mind, it’s easy to see why some are choosing to retire early, reduce hours or opt out of a pension scheme entirely.

It’s a trend that’s particularly evident among high earners and those with Final Salary pension schemes, which typically offer greater benefits than alternatives. It’s a penalty that’s affecting doctors, but it’s also an issue for other earners.

To calculate a Final Salary scheme in your Lifetime Allowance you must multiply the expected annual income by 20. If, on the other hand, you transfer out of the scheme, the Cash Equivalent Transfer value may be quite high and contribute towards a large proportion of your allowance.

Even if you’re approaching the Lifetime Allowance, there are two key reasons to continue paying into your pension:

1. Employer contributions: If you leave your employer’s pension scheme, they will stop paying in too. This could end up costing you money overall. While the tax implications may be less tax-efficient once you breach the Lifetime Allowance, it doesn’t necessarily mean all the benefit is lost. Where your employer is contributing at high levels, it may be the case that this offsets the additional tax you pay, and you still end up with more than you put in.

2. Auxiliary benefits: Before considering leaving your pension scheme, look at the additional benefits on offer. Some pensions offer auxiliary benefits that may be valuable to you; leaving the scheme typically means forfeiting these. One of the most common auxiliary benefits is a pension for your spouse, civil partner or dependents. It provides financial security for your loved ones should you pass away first, it will usually pay out a percentage of your pension or salary.

While avoiding paying unnecessary tax on your savings makes sense, it needs a balanced approach. Weighing up how the decision can impact financial security, as well as your family’s, now and when you reach retirement is important. In some cases, paying more tax could prove beneficial when you look at the bigger picture.

Options if you leave your pension scheme

While it’s not the right option for all, for some leaving a pension scheme may make sense. If you progress this option, it’s crucial to have a plan for the future. There are other tax-efficient ways to save for your future, such as Cash and Stocks and Shares ISAs (Individual Savings Account).

If you’d like to discuss retirement provisions and tax liabilities and their impact on your wealth, please contact us. We can help you understand if leaving your employer’s pension scheme is the right thing to do in your situation.

Please note: A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits. The tax implications of pension withdrawals will be based on your individual circumstances, tax legislation and regulation which are subject to change in the future.