The lifetime allowance’s popularity, rather like its value, has been dropping for years. The annual allowance has arguably had less bad press so far, but with the introduction of the universally hated tapered annual allowance following closely behind the money purchase annual allowance (MPAA) and last year’s transitional rules, that’s probably set to change.
The lifetime allowance’s popularity, rather like its value, has been dropping for years. The annual allowance has arguably had less bad press so far, but with the introduction of the universally hated tapered annual allowance following closely behind the money purchase annual allowance (MPAA) and last year’s transitional rules, that’s probably set to change.
Pensions carry a number of tax advantages, and it’s generally accepted that it wouldn’t be sustainable for those to be unlimited. However, it’s less clear whether the annual and lifetime allowances are the best way to achieve this, particularly given the number of changes to both in recent years.
The allowances’ origins
A question heard many times in relation to the allowances is, if we’re limiting what goes in, why do we need to limit what comes out? In answer to the question, this problem has developed as the two allowances have evolved over time.
The annual allowance started off at £215,000 – more than five times its current level. But this amount was based on flexibility, rather than on generosity. This allowance enabled investors to make large single contributions in years when their income was exceptionally high.
It also helped those who left pension planning until later in life to build a substantial fund in a relatively short time. However, the aim was never to allow high earners to build enormous tax-relieved funds by maximising this allowance every year of their working lives, and this is why the lifetime allowance arrived at the same time.
To look at it the other way around; what if the government had only set the lifetime allowance, and hundreds or thousands of high earners decided to fully fund their pensions in any given year? This would most likely cause huge problems with the government’s income tax receipts, not least because the effect would be unpredictable from one year to the next.
Introducing the annual allowance at the same time helped to smooth the overall amount of tax relief over a number of years.
In 2006, it made sense to have both allowances. They worked together to give pension investors flexibility when it was needed, but also to give an overall limit to the tax advantages available and deliver tax relief in a more controlled way.
But what about now?
Both allowances have dropped significantly – but not proportionally – since 2012. If only one had gone down, the above arguments for having both would probably still make sense.
We would be able to see there was either a need to lower the overall level of tax-advantaged benefits, or to spread tax relief over a greater number of years. With both allowances dropping, the need for both becomes increasingly tenuous
