Punitive tax stops savers paying for care

Saving enough for a comfortable retirement and care pushes pension pots over the lifetime allowance, writes Jessica Beard

Savers face hefty 55pc pension taxes as it costs more to pay for care and fund retirement than can be saved into a pension without penalty. The limit on pension savings, known as the “lifetime allowance”, punishes those who breach it with a 55pc tax charge on the excess savings. It has been frozen at £1,073,100 until 2026 as the Chancellor, Rishi Sunak, tries to raise taxes and repair the Treasury’s finances.

However, this has affected people who want to save to pay for their own end- of-life care – the cost of which is spiralling. Care fees could rise by 20pc this year as a result of runaway inflation, higher energy bills and a staffing crisis, experts from the UK Care Guide, a specialist website, have warned.

Those who use pension savings to pay for help in old age will now pay more in tax. Such savers have already been forced to put more into pensions to cover the rising cost of retirement.

Someone who wants to buy an annuity today to afford a comfortable retirement, and have enough to fund their own care, needs a £1,072,384 pension pot, figures calculated by pensions firm Aegon have shown. This is only hundreds of pounds short of the lifetime allowance.

Anyone who wants to pay for care in future, when costs are certain to be higher, will therefore breach the allowance and be forced to save even more to cover punitive 55pc tax bills.

Steven Cameron of Aegon said savings plans would be scuppered by the frozen allowance. He said: “From next year, the maximum you’re allowed to save tax-free in your pension will not be enough to pay for a comfortable retirement and meet your share of care costs – even under the Government’s new social care deal.”

The cost of care varies widely across the country, with prices starting from £1,200 a month in care homes in the South, according to The Good Care Group, a care provider. Residential care can cost more than £ 50,000 a year, while care for more specialist needs, such as for advanced dementia, costs closer to £60,000, according to Elder, another provider.

The average stay in a care home is 30 months, a study by PSSRU, a research group, found. A typical stay in a care home would set residents back by £104,280, Aegon calculated.

According to the Pensions & Lifetime Savings Association, a trade body, a “comfortable retirement” will cost £ 36,288 a year if inflation hits 8pc this spring, as predicted by the Bank of England.

This requires £26,660 a year from private pension savings to supplement the state pension and a 65- year- old would need £ 958,477 to buy an inflation-linked annuity that produced that sum, according to Money Helper, a government service.

Simon Bull, 51, from Kent, said he was concerned his £1m pension would not be enough to cover the cost of living in a care home as well as retirement.

“The allowance is not a huge amount. A lifetime of prudence is penalised by excessive taxation that removes part of my pension and then denies me the ability to provide for my own care. I should have not bothered and just relied on the state to look after me,” he said.

Jon Greer of Quilter, a wealth manager, said people had “dangerously” underestimated how much they would need to pay for care because of the Government’s misleading cap on costs.

“Many believe they will pay only £ 86,000 and no more with the new cap in place. However, this is far from the case as people can very quickly find themselves paying up to £ 200,000 before the state steps in,” he said. The new lifetime cap applies only to “personal care” and does not cover food and accommodation for care home residents, the so-called “hotel costs”.

Astronomical fees have meant many will have to breach the lifetime allowance if they are at risk of going into a home, he said. This newspaper is campaigning for the limit to be unfrozen and rise with inflation – as had been the case before the Chancellor froze it in September 2021.

His decision will drag an additional 400,000 savers into high tax territory. Any savings above the threshold are taxed at 55pc if the money is withdrawn as a lump sum. Cash taken as income is taxed at 25pc plus income tax.

Richard Harwood of Brewin Dolphin, a wealth manager, said the Government was “cynically grabbing” what it could and the current allowance bore no relation to what pension savers realistically needed.

“It is far too low and risks dissuading people from saving as much as they can for later life,” he added.

The allowance was designed to hit the 5,000 wealthiest savers in Britain. However, it will now snare more than 1.6 million pensioners. It has been successively reduced by Conservative governments from £1.8m in 2012.