What does the change to the pension lifetime allowance mean for finances on divorce?
The Government’s Spring Budget 2023 announced that the lifetime allowance (LTA) on pensions would be abolished. As pensions often form a key part of the financial negotiations on divorce, this reform has implications for those currently trying to reach a settlement as well as those who have already arrived at an agreement.
In this post, we’ll explain what the lifetime allowance is and the implications of the abolishment.
What is the Lifetime Allowance and why was it abolished?
The LTA is a certain amount that a person could accumulate in their pension schemes without being liable for certain UK tax charges. The lifetime allowance is currently set at £1,073,100. Each time a pension member withdraws benefits from their pension, it will be deducted from their LTA. If they withdraw benefits that are greater than the lifetime allowance, then an LTA charge applies. But as a result of the reforms proposed, this charge has been disapplied since 6 April 2023 with the intention that the lifetime allowance in its entirety will be abolished for the 2024/2025 tax year onwards.
The Government’s decision to abolish the lifetime allowance was made as part of a string of measures to try and boost the work force. It is hoped that the reforms will encourage those close to retirement (particularly doctors and GPs) to stay in work longer and those who are already retired to return to work, without their pensions being penalised by doing so.
What impact will it have on divorces?
Pensions often form a large – if not the largest - part of the matrimonial asset base which, on divorce, stands to be shared. Where parties are currently in the process of reaching a settlement or have recently settled, the removal of the lifetime allowance could have drastic implications.
Firstly, the pensions value for the purposes of negotiations may have changed. Good practice is for the net asset value to be used, accounting for any tax that may become due. If the lifetime allowance charge is no longer to be applied, this could lead to a large increase in a pension’s value for the purposes of negotiations. For those who have recently reached a settlement, it may now need to be reviewed to factor in this increased value as the overall settlement may be considered unfair.
It may also affect settlement outcomes. Where previously it made sense for the party with the larger pension to share some of it to avoid the lifetime allowance charge, this strategy is no longer needed. Of course, the starting point on divorce is still one of sharing, but that party may now wish to use alternative court powers to reach an overall asset division. For example, rather than sharing their pension they may wish to offset the value of their pension schemes against other assets in the case, like the former matrimonial home or investments.
Finally, the reform is not yet law. It was announced in the 2023 Spring Budget, but it must still be written into legislation in the future Finance Bill. Though it is expected to be passed, the bill must be approved by parliament. Even once passed, there could be a U-turn in the future as Labour has announced an intention to reinstate the LTA if they are elected to power. This means that there is ongoing uncertainty on whether the reform will be here for the long term.
The changes to the pension lifetime allowance may be of value to those who have pensions nearing or over the existing limit. But for those who are going through a separation and resolving their finances, they should approach their pensions with extra caution and seek specialist advice from both their financial advisor and their family lawyer to ensure that the reforms are appropriately addressed in negotiations.
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