The test is relatively straightforward. For unvested money the fund value is used. Drawdown differs! With drawdown, if the full fund value were used, this would cause double taxation – the fund would have been tested twice on entry then again at 75. There is a ‘prevention of overlap’ rule to prevent the double taxation, so from the age 75 fund value you can deduct the amount originally designated to drawdown.
If there is an LTA excess, it will be taxed at 25%, as the money is being retained in the pension. The scheme will deduct this and pay it to HMRC. Any withdrawals from the net amount will be taxed at the marginal rate as usual.
This means that where there is a lifetime allowance excess, the overall taxation on that excess will be as shown below.
Let’s assume a £1,000 excess:
LTA charge
|
Tax status of member beneficiary
|
Income tax
(on £750)
|
Overall taxation
|
£1,000 x 25%
= £250
|
20%
|
£150
|
£400/£1,000 = 40%
|
40%
|
£300
|
£550/£1,000 = 55%
|
45%
|
£337.50
|
£587.50/£1,000 = 58.75%
|
Where there is sufficient LTA, then there is not much to be done.
Your 75th birthday is a single point in time (unless you’re the Queen of course) so, where there is going to be an excess and there are multiple arrangements, there is an advice point. The member will need help in deciding the order in which the tests should be done. The relative merits of each arrangement for the member’s circumstances should dictate, eg pots with guarantees might be tested first, so the LTA charge is taken from the pots without guarantees, or drawdown pots tested last to suffer the tax charge on a pot of money 100% taxable, instead of unvested pots where tax-free cash may still be available.
Any funds destined to be over the lifetime allowance which can be accessed at a lower tax rate than the overall taxation above, may be withdrawn and held to spend or passed on to beneficiaries; minimising the charge maximises the fund.
Likewise, if currently under the lifetime allowance but projecting to be over it, earlier action might be beneficial where a crystallise-and-withdraw strategy gets access to the funds for the member or their beneficiary, at a rate lower than the overall rates above.
It might be simple. It might be complex. It might just need advice!