By Melanie Townsend
From April 2006, a lifetime allowance was introduced providing a limit on the maximum fund that an individual is allowed to hold in their pension scheme without incurring a tax charge. The current lifetime allowance is set at £1.8 million. The government has recently announced that from 2012, the lifetime allowance will be decreased to £1.5 million.
How does a lifetime allowance work?
The amount of a person’s pension benefit is usually only measured when monies are withdrawn from the fund as a result of either death or retirement, such an event being defined by HM Revenue & Customs as a Benefit Crystallisation Event (BCE).
Upon the BCE, the pension provider must provide a calculation of the proportion of the individual’s lifetime allowance that has been used. If the scheme calculates that upon retirement or death the withdrawal from the fund exceeds the person’s lifetime allowance, then a penalty tax charges will be levied and the scheme will deduct this from the benefits paid to the member before payment.
The amount of penalty charge currently due is as follows:
55% tax penalty if excess benefits are taken as a lump sum
25% tax penalty if excess benefits are taken as a pension
It is also worth bearing in mind that if the tax penalty applies on the pension income, this is also likely to be subject to the 40% higher rate tax deduction.
How will pension sharing affect the lifetime allowance for wealthy clients?
A pension share upon divorce does not constitute a BCE as the pension assets are simply being transferred between husband and wife rather than the husband/wife or his/her estate drawing the benefit.
If acting for a husband upon divorce, it may be beneficial if the husband has pension benefits exceeding the lifetime allowance (currently at £1.8 million as mentioned above) to try to transfer the amount of pension over and above his lifetime allowance to the wife as part of the settlement thereby reducing his tax liability. It should be borne in mind for the wife, however, that any transfer to her should be kept within her lifetime allowance to ensure she is not subject to penalty tax charges.
Both solicitors and clients should be aware that pensions are likely to increase in value and therefore any pension credit accepted for the wife now of say £1 million as part of the divorce settlement may we well have increased to £1.5 million by the time she intends to draw those benefits in say 5 or 10 years time. The same of course applies to civil partnership settlements.
If you are thinking of divorcing your partner or are in the process of a divorce and need further legal advice regarding pensions within divorce, please telephone Melanie Townsend of Townsend Family Law on 01992 892214. We service all local areas including Epping, Hertford and Harlow but can also offer telephone and video conferencing appointments so that you do not need to attend our offices if you are unable to.