Stop the tax raid on our pensions

The Chancellor’s freeze on the pensions tax-free limit must end, writes Jessica Beard

Runaway inflation will drastically reduce the amount hard workers can put into their retirement pots if a limit on life savings is not lifted, dragging half a million diligent savers into the stealth tax for the first time.

In 2021 Chancellor Rishi Sunak froze the pension lifetime allowance, which punishes those who save too much with a tax charge of up to 55pc, at £1,073,100 for five years. In real terms, this will wipe a quarter off the limit by 2025.

This newspaper today launches a campaign to protect hard- earned pensions from extortionate tax bills and to highlight how the punitive rules are disincentivising sensible saving. The Chancellor must scrap the controversial five-year freeze, allowing the cap to rise in line with inflation. This has gained widespread support from former pensions ministers, cross- party MPs, leading think tanks and the pensions and wealth management industries.

Just months after Mr Sunak froze the threshold, which previously rose with inflation, the consumer price index hit a 10-year high. It has now reached 5.5pc – its highest level in 30 years.

Without the freeze, inflation at 5pc would have increased the allowance by £300,000 to £1.37m by 2025, according to calculations by pensions firm Aegon. In real terms, the threshold will fall by £230,000 to £840,000. This gap will be even wider if inflation reaches 7.25pc by April, as the Bank of England predicts.

The freeze also means an extra 400,000 workers will fall foul of the cap, according to Sir Steve Webb, a former pensions minister and now partner at consultancy LCP. The lifetime allowance, designed to capture the 5,000 wealthiest people, will now affect more than 1.6 million savers, Sir Steve found.

Any savings above the threshold are taxed at 55pc if the money is withdrawn as a lump sum. Cash taken as drawdown is taxed at 25pc plus income tax. Untouched pots are taxed at 25pc on the saver’s 75th birthday.

Tom Clougherty, of the Centre for Policy Studies, an influential centre-right think tank, said the lifetime allowance was a “wholly inappropriate restriction” on pensions. “In an ideal world, it would be scrapped altogether. We already have limits on annual pension contributions and we levy income tax. There is no justification to punish successful long-term investing,” he said.

Unlike Isa savings, where contributions are capped, the lifetime allowance applies to the overall size of pension savings. This means rising stock markets can push investors above the limit.

Aegon’s Kate Smith, The Telegraph’s Pensions Doctor, warned that modest earners would be caught by the tax net. “It’s not just wealthy people who are impacted but also ordinary people who have done the right thing and saved. Through no fault of their own, they could now face a hefty tax bill,” she said.

The current limit barely affords a “comfortable” retirement for those buying guaranteed income. Someone purchasing a joint inflation-linked annuity with £1,073,100 would get an income of £24,137 a year before tax, said William Burrows of Retirement Planning Project, a financial planner. The £9,350 state pension would bring their annual income to £33,500. The Pensions and Lifetime Savings Association, a trade body, calculated that £33,600 is required for a “comfortable lifestyle”.

Jon Greer, of wealth manager Quilter, said “constant Government tinkering” had made the allowance a “complex minefield”. He added: “The unintended consequences of freezing it are huge. These substantial taxes intrinsically breed the wrong behaviours in people who save less or work fewer hours to avoid being penalised for saving.”

A Treasury spokesman said the freeze would help pay for the Government’s high public spending during the pandemic. He confirmed that one in 10 people approaching retirement will be caught by the lifetime allowance.