Why am I being unfairly penalised over 25% pension tax-free cash after lifetime allowance abolition? STEVE WEBB replies

I retired in 2020 at the age of 60 and took what I understood at the time to be the maximum 25 per cent tax-free cash from two different pension schemes.

At the time, everything was handled correctly. However, upon receiving my 2024/25 P60s, I noticed an inconsistency.

Both providers listed amounts under the Lump Sum Allowance/Lump Sum and Death Benefit Allowance (LSDBA).

One provider accurately reflected the tax-free lump sum I received five years ago. The other reported a significantly higher figure — £47,806 instead of the actual £25,554 I received.

This discrepancy amounts to an additional £22,252 being attributed to my Lump Sum Allowance usage.

When I queried this with the firm involved, they advised that they used an HMRC-provided formula to convert my previously used Lifetime Allowance percentage into a monetary figure under the new rules.

They also stated they cannot amend the reported figure without a transitional certificate or evidence of LTA protection.

This raises a concern: why have I apparently lost the ability to utilise the full £268,275 Lump Sum Allowance now available under the new rules?

As I understand it, the LTA has been abolished, but limits on tax-free lump sums still exist.

However, it seems that my withdrawals are now being recalculated in a way that disadvantages me — even though the amount I actually received hasn't changed.

No doubt, many other of your readers will be in a similar position.

Steve Webb replies: As you know, in 2023/24 there was a lifetime limit of £1,073,100 on the amount of pension savings you could build up whilst benefiting from pension tax relief.

When this Lifetime Allowance was abolished on 6 April 2024, the Treasury was concerned that the cost of pension tax relief could rise sharply if people started to save more into pensions and took more out in the form of tax-free cash (known in the jargon as 'pension commencement lump sums').

To prevent this from happening, the Government introduced some new limits, one of which is the Lifetime Savings Allowance.

This is set at 25 per cent of the old LTA, or £268,275, and caps the total amount of tax-free lump sums which someone can enjoy over the course of their lifetime.

(Note that different rules apply to those who had registered for different forms of 'protection' under the old LTA regime.)

Unsurprisingly, the Government did not want to reset the 'meter' to zero and allow people who might already have taken out tax-free cash to take out *another* £268, 275 tax-free.

So, it was necessary to work out how much had already been taken out before the new allowance was created and deduct that figure to give a remaining LSA to be used going forward.

You might imagine that HMRC keeps records of all the tax-free lump sums which people have ever taken and so could simply come up with a total for tax-free cash used by 6 April 2024 and tell everyone their unused balance.

Unfortunately, the system does not work like that.

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In the days before the Lifetime Allowance was abolished, the onus was on the individual to keep a running total of the amount of Lifetime Allowance they used up every time they drew on their pension savings.

This could be, for example, when they started to receive a salary related pension or when they used a 'pot of money' pension to buy an annuity to go into drawdown.

Having recorded the percentage of the LTA which they had used up when they first took a pension, the saver then had to notify the next pension scheme of this percentage when accessing another pension and keep a running total.

There was no requirement on individuals or pension providers to keep track of the tax-free lump sums that were taken. The focus was just on the LTA.

As the need to keep records was around the LTA, HMRC decided that the amount of your Lifetime Savings Allowance used up prior to April 6 2024 will not be the actual cash amounts of lump sums you took but instead will be 25 per cent of the running total of LTA you had used up on all of your pension withdrawals before that date.

In simple cases these two numbers will often be the same thing (as with one of your pensions).

But this may not always be the case. There are several reasons for this and you have since told me that these could apply in your case.

- You may have chosen not to take the maximum amount of tax-free cash available to you.

In this case 25 per cent of the amount of LTA used up would be higher than the actual amount of tax-free cash you have taken.

- The way defined benefit pensions used to be scored against the LTA did not always align with the way in which the 25 per cent tax-free entitlement was worked out in such schemes.

There could thus be a mismatch between your actual tax-free cash and the figure generated by HMRC's rules.

HMRC recognised that it could be unfair to 'score' more tax-free cash against your LSA than was actually taken and so it created the concept of a 'Transitional Tax-Free Amount Certificate' to put this right.

In simple terms, provided you have full documentation to show what actually happened, you would be able to get a certificate which shows the actual figure you took out, and it is this figure which would be deducted from the LSA to show what was left.

Depending on someone's circumstances, using the actual lump sums taken could increase or reduce their remaining LSA, so care is needed.

More detailed rules can be found at this link: Lump sum allowance and lump sum and death benefit allowance: Transitional rules for the tax year 2024-25: Transitional tax-free amount certificates.

Given that you accessed both of your pensions before 6 April 2024, I would assume that you could now simply apply for a transitional certificate and provide documentary evidence of the amounts that were actually taken in tax-free cash across your two pensions.

This should mean that in the event you take further tax-free cash in future you will have the correct amount of residual Lifetime Savings Allowance.

Your experiences do however show the importance both of keeping good records and of being aware of this rule change and taking action (if needed) *before* accessing pensions from April 2024 on.

If someone in your position does not get the baseline LSA figure corrected before accessing their next pension after this date, it cannot be corrected afterwards.

The rules around the abolition of the LTA are complicated and it can be challenging to grapple with them on your own.

Given the large sums of money that can be involved, it is worth readers who are affected considering getting a financial adviser to help them with these matters.