Currently up to 25% of the accumulated pension pot can be taken as a tax-fee lump sum at any point after the age of 55. Many pensioners use the lump sum to repay debt, make alterations to their home, top up savings or invest to provide an additional income.
The future of the tax-free lump sum is regularly debated, especially before the yearly Budget and Autumn Statement. Although so far consecutive Chancellors have avoided attacking it directly, preferring to cap the amount of money people can hold in their pension pot and consequently limit the tax-free lump sum to £312,500 by the back door.
As average pension pot is thought to be around £33,000, most people are not affected by the limit known as the Lifetime Allowance, which is currently set at £1.25 million.
However, there have been renewed calls, this time from the Institute of Fiscal Studies, to cap the amount of tax-free lump sum available to “a level considerably below £312,500.”
Carl Emmerson, Deputy Director if the Institute for Fiscal Studies, said: “More fundamentally if the objective is to encourage individuals to build up a private retirement income it would seem more natural to subsidise private retirement incomes than to encourage lump sums to be taken from pension pots.”
Although used to calls to reduce the tax-free lump sum, would-be retirees will understandably become increasingly nervous as we move towards the Budget and the next election.
It is already thought that Labour is planning to impose a cap as low as £36,000; a limit originally proposed by the Pensions Policy Institute. This would mean pension pots of £144,000 would be affected, hardly massive when one considers this would produce only around £5,500 of income each year after the tax-free lump sum has been taken.
Many people have planned for many years how to use the tax-free lump sum and some will have no alternative ways of achieving their financial goals.
Experts urge caution though, if you are thinking of retiring soon, knee jerk reactions to these stories would be unwise. However, it would be sensible to keep your retirement planning under constant review, so you can withstand any changes which are made.
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