From the 6th April 2018, doctors and dentists who have more than £1,030,000¹ in their pension pot are very likely to be hit with an unwelcome tax bill. Even medics who don’t think their pension is anywhere near this figure could be caught unawares.
Surely then it’s better to avoid exceeding this lifetime pension allowance limit than pay more tax…or is it?
Who is likely to exceed the lifetime pension allowance limit?
First and foremost, because of the way the NHS Pension Scheme has to value your pension against the lifetime pension allowance (LTA), a large number of NHS doctors and dentists will find their pension pot at retirement at least close to, if not over, the new LTA limit. This particularly applies to those medics who have joined the 2015 NHS Pension Scheme early in their career and plan to work through to their normal retirement age.
Secondly, remember that the actual value of your pension is only measured at the point at which you take your pension benefits (and after any penalties have been applied). It means that even if your pension isn’t over the LTA mark now, it could very well be when you retire.
So why is having more than the lifetime pension allowance in your pension a good thing?
Contrary to a lot of recent press coverage, there are a number of valid reasons why you would want your pension to be in excess of the lifetime pension allowance. Here are three of them:
Reason 1: Using the NHS Scheme Pays method to pay the tax charge you incur when you breach the lifetime pension allowance limit
With the Scheme Pays method, the NHS in effect loans you the money to pay your additional tax bill, recouping its money by reducing your pension income when you retire. The resulting penalties which are applied to your pension reduce the size of your pension pot to under the lifetime allowance threshold.
Reason 2: You want to retire before you’re in your late 60s
If you do, you’re not alone! The retirement age for members of the 2015 NHS Pension Scheme is linked to the state retirement age (currently 67). If you draw your pension before this age, you’ll incur hefty penalties.
In order to cover the impact of your early retirement penalties, you may require a pension in excess of the lifetime allowance. In short, the earlier you wish to draw your pension benefits, the bigger your pension fund needs to be.
Reason 3: Maximising your tax free lump sum on retirement
NHS Pension Scheme members can give up some of their pension income when they retire for an increased tax free lump sum.
For your lifetime pension value, the two figures – your pension income and tax free lump sum – are calculated differently. If you increase the tax free element and reduce your pension income, the size of your pension pot for LTA purposes will be smaller than if you had kept your pension income at its original amount.
As with most things financial, the headline seldom tells the whole story. The size of your pension fund, and the answer to the ‘if, when and how’ it breaches the prevailing lifetime pension allowance question, depends, for the most part, on:
- How you intend to take your NHS Pension benefits
- At what age you want to retire
- How you plan on paying any tax generated.
Will your pension breach the lifetime pension allowance and, if so, how does it affect your retirement plans? Let us know by adding a comment below.
¹ The lifetime pension allowance limit is £1,000,000 until the 5th April 2018. From the 6th April 2018, this limit will increase in line with the consumer price index (CPI) to £1,030,000.