12,000 savers breach LTA protections since 2006, FOI reveals

Around 12,000 pension savers have breached their lifetime allowance protections since 2006 when the modern system of pension tax allowances was introduced, a freedom of information (FOI) request by AJ Bell has revealed.

The FOI request revealed that there has been a spike in protection breaches since the introduction of auto-enrolment. The current pension tax allowances system was introduced as part of a radical simplification programme under Tony Blair’s Labour government.

Each time the lifetime allowance has been cut since A-Day in 2006, a new set of transitional protection rules has been created. There are four types of protection which can be lost when a member contributes to a pension scheme: Enhanced protection (6069 breaches), fixed protection – 2012 (2228 breaches), fixed protection - 2014 (3063 breaches) and fixed protection -2016(878 breaches).

AJ Bell senior analyst Tom Selby said the lifetime allowance is a “pernicious tax”, which effectively punishes DC savers who enjoy strong investment performance. He believes that successive cuts to the allowance each year have created a “complex web” that have resulted in people being unfairly penalised.

“A number of these protections come with terms and conditions – namely that you are no longer allowed to contribute to a pension scheme. If you do, the protection is lost and you could face a huge tax bill on the excess.

“For example, someone with a £1.25m fund who took out fixed protection 2016 and subsequently lost it in the 2018/19 tax year would face a tax bill of £121,000 on the excess.”

In particular, around 7,000 breaches have been recorded since the introduction of auto-enrolment, and even more so with the roll-out of the reforms to smaller businesses.

“It is likely a significant proportion of these people accidentally broke the terms of their protection by failing to opt-out of their workplace scheme, either initially or at their re-enrolment date three years later. For these people the massive resulting tax bill will be a bitter pill to swallow,” Selby stated.

“However, in a recent First-tier Tribunal ruling the judge decided a man who had accidentally voided his lifetime allowance fixed protection by failing to cancel a contribution standing order should have the protection reinstated. If HMRC is unable to get the ruling overturned at appeal, it may mean thousands of pension savers who have had their protection certificate revoked are knocking on its door asking for their money back.”

“Whether it is doctors being hit with tax bills for breaching the annual allowance taper or savers losing fixed protection after contributing to a pension, it’s clear the inherent complexity of the pensions system is causing problems for higher earners.

“The government should review the pension tax regime and consider simpler alternatives which don’t unnecessarily hamper those doing the right thing and saving for retirement.

“One option would be to create separate tax regimes, with defined benefit schemes controlled by a lifetime allowance and defined contribution by a single annual allowance. This would allow the Treasury to keep a lid on costs and in the process remove huge complexity from the system. The annual allowance taper and money purchase annual allowance could then be scrapped altogether, radically simplifying the system in the process.”

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