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The Labour party is being urged to go beyond reinstating the lifetime allowance on pensions contributions by reining in “overly generous” pension tax breaks for wealthier UK savers.
If Labour wins the general election, the party has committed to bring back the lifetime allowance (LTA) — the cap on how much can be saved or grow in a pension before tax charges apply — with the old limit £1,073,000.
The Institute for Fiscal Studies, an influential think-tank, this week argued there was a case for Labour to “swiftly” reintroduce the LTA, which was scrapped by Conservative chancellor Jeremy Hunt in April this year.
“The pensions tax regime is still overly generous to those who already have big pensions, those with high retirement incomes and those getting big employer pension contributions,” the IFS said in a paper published this week.
“There is therefore a case for Labour’s proposed reinstatement of the lifetime allowance and, were Labour to form the next government, it would be best advised to implement any reform swiftly.”
The IFS said Labour could reintroduce the LTA at its previous level of about £1,073,000 but this would create “tricky” issues for those who had built up bigger pension pots under the current regime.
An additional way to ease “transitional issues” for those who had larger pension pots would be to reinstate the lifetime allowance at a higher level.
“In this context it might be worth noting that the last Labour government set the lifetime allowance at £1.8mn in April 2010; it could, for example, reintroduce it at that level — or the equivalent adjusted for inflation, which would be around £2.7mn today,” the IFS said.
The think-tank said there were other ways Labour could “improve” the system. One option would be to reinstate the LTA at a higher value than its old level, while also cutting the amount of pension savings from which 25 per cent can be taken free of income tax after the age of 55.
It added there should also be a new limit on the amount of pension that can be bequeathed free of inheritance tax — ideally zero, but any limit would be an improvement, it said.
“A reinstated lifetime allowance should also be less generous for defined benefit pensions (relative to defined contribution pensions) than the one that was in place from 2006 to 2022, and particularly so for those who take their defined benefit pensions earlier,” said the IFS.
“It would also be worth considering reintroducing the lifetime allowance as a cap on contributions to defined contribution pensions and accrued benefits in defined benefit pensions, rather than on the pensions’ estimated value.”
Rachel Reeves, shadow chancellor, on Tuesday committed to no increase in income taxes or national insurance in the next parliament if Labour were elected.
However, the party is yet to set out what its plans are for the LTA or wider pension reform.
“We haven’t seen the manifestos yet, and even when we do they might not contain much concrete detail on pensions, inheritance tax or the taxation of investments,” said Gary Smith, partner in financial planning at wealth management firm Evelyn Partners.
“So we are left in a world of probabilities, possibilities and suspicions around upcoming changes to the financial landscape that savers might have to navigate.”
Smith added: ‘A new government might look at the tax treatment of pensions or certain IHT reliefs to bridge a funding gap that seems bound to open up even if public sector spending is severely restricted. Savers, however, should be very wary of acting on such possibilities and it is highly unlikely any changes to the tax system would be enacted before April 2025.”
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