Ask the Expert: I’ve worked all my life - do I now have to pay tax on my pension?
Our reader wants to know if her NHS pension pot is going to tip over the tax-free lifetime allowance for pensions.
I work in management in the NHS so have a decent salary and am a member of the NHS pension scheme. I’m aged 45 so have over 20 years to go before I retire. I’ve been talking over the weekend to a friend who is on a similar pay level to me but closer to retirement and she says that if she keeps working till age 66, she might have to pay tax on some of her pension because it will be worth more than the limit set by the government. Will this affect me too and if so, what should I do?
Response from Carl Lamb of Almary Green
The lifetime allowance (LTA) for pensions is currently £1,030,000. This may sound like a huge amount but you’re right that for high earners, there is a real danger of breaching the limit. In a defined contribution scheme where the value of your scheme is the sum of contributions from you and your employer, plus investment growth and tax relief, it’s easy enough to see what your pension is worth and to therefore take action to keep it under the LTA.
However, in defined benefit schemes such as the NHS scheme, the value of your pension benefits depends on your salary and your length of service so it’s important to understand how its value is calculated when it’s tested against the LTA.
Generally speaking, in a DB scheme the value of your pension is deemed to be 20 times your annual pension plus any lump sum entitlement.
It’s important to remember that it’s the excess that will be subject to the LTA tax charge, not the whole pot, so you will still receive at least 45% of any additional pension entitlement you’ve accrued and potentially 75% of it.
The charge itself is currently 55% of the excess if it’s taken as a lump sum and 25% if taken as income.
It is levied via the pension scheme administrators who will effectively reduce your pension payments accordingly.
The pension you receive will, of course, be subject to income tax assessment once you’ve taken your tax-free entitlement.