Pensions and tax

HM Revenue and Customs (HMRC) governs pensions savings. There are three main allowances for pension savings, an Annual Allowance (AA), a Lump Sum Allowance (LSA) and the Lump Sum and Death Benefit Allowance (LSDBA). The LSA and LSDBA replace the former Lifetime Allowance with effect from 6 April 2024. The information below provides an overview of the rules governing taxation of pension savings. The rules are complex and can only be summarised here. If you are unsure about the best course of action, it is recommended that you get specialist financial advice and tax guidance as Pension Services staff cannot provide this for you.

Lump Sum Allowance (LSA)

The LSA is a limit on the total amount of tax-free cash an individual can take from all their pension savings. It is set at £268,275 and there is no provision in the legislation for this limit to rise. 

Lump Sum and Death Benefit Allowance (LSDBA)

The LSDBA is a limit on the amount of tax free cash that can be taken by an individual and the lump sum death benefits that can be paid in respect of an individual when they die. It is set at £1,073,100 and there is no provision in the legislation for this limit to rise. 

In general
  • Any payments in excess of the LSA or LSDBA will be taxable at the recipient's marginal rate of tax. 
  • The LSA and LSDBA are reduced when the individual has previously used up some or all of their Lifetime Allowance.
Annual Allowance (AA)

The Annual Allowance (AA) is the amount by which the value of your pension benefits may increase during a tax year without you having to pay a tax charge. This is in addition to any income tax you pay on your pension once it is in payment.

If the value of your pension savings in any tax year (including pension savings outside of the LGPS) are in excess of the annual allowance, the excess will be taxed as income.

The annual allowance for the tax year 2024/2025 is £60,000. 

Most people will not be affected by the AA tax charge because the value of their pension savings will not increase in a year by more than the AA, or, if it does they are likely to have unused allowance from previous years that can be carried forward.

Note that if:

  • you have exceeded your annual allowance and
  • you do not have sufficient unused annual allowance to carry forward the excess,

then you must declare this on your Self Assessment tax return - even if your scheme is paying the tax charge.

Changes to LGPS revaluation date

In March 2023 the government changed the date for the revaluation of Career Average Pension from 1 April to 6 April. This brought the revaluation of LGPS CARE benefits in line with the Pension input Period (PIP) used for annual allowance (AA) calculations.

The AA calculation measures the increase in pension benefits over the PIP. If growth exceeds the AA limit then a tax charge may be payable.

There was a problem as the cost of living increase for 2022/23, of 3.1%, was greatly different from the increase to be applied to CARE benefits, of 10.1%. This could have caused significantly more people to breach the AA limit and face a tax charge. The change in revaluation date was made to alleviate this problem.

Please see AA examples to illustrate the problem.

For more details on AA see:

Annual Allowance

You can find a short video on annual allowance at: Videos

And to check if the annual allowance affects your tax, see the HMRC website.

 

 

Tapered annual allowance

On 6 April 2016, a tapered annual allowance was introduced for some higher earners.

The annual allowance of £60,000 may be reduced or 'tapered' if your annual income during the tax year (known as 'threshold income') is over £200,000 and your 'adjusted income' is over £260,000. These limits are for the tax year 2024/2025.

Your 'threshold income' is your annual income before tax less your personal pension contributions and ignoring employer contributions.

Your 'adjusted income' is broadly speaking, your 'threshold income' plus your pension savings built up over the year.

For every £2 that your Adjusted Income exceeds £260,000, your AA is reduced (tapered down) by £1, to a minimum of £10,000.

Don't forget though, that you can also carry forward any unused annual allowance from the previous 3 tax years and use this. Your available annual allowance is your reduced (or tapered) annual allowance plus, any unused allowance from the previous 3 tax years.

Work out your own tapered annual allowance.

What should I do if I've made pension savings over my available annual allowance?

If your pension savings made in the tax year are more than your available annual allowance, you should include the excess amount on your Self Assessment return.

This amount is added to your taxable income and you will pay Income Tax on it, at the tax rate that applies to you.

Money Purchase Annual Allowance (MPAA)

You may also have pension benefits in different types of schemes, known as money purchase or defined contribution schemes.

If you have flexibly accessed any benefits in a money purchase arrangement on or after 6 April 2015, and paid contributions to a money purchase scheme that exceed the MPAA (see below), your defined benefit pension savings will be tested against the alternative AA limit and you will pay a tax charge in respect of your money purchase savings in excess of the MPAA.

Tax year MPAA Alternative annual allowance if MPAA is exceeded
2020 to 2021 £4,000 £36,000
2021 to 2022 £4,000  £36,000 
2022 to 2023 £4,000 £36,000
2023 to 2024 £10,000 £50,000
2024 to 2025 £10,000 £50,000

If you access flexible benefits you will be provided with a flexible access statement. Make sure that you provide us with a copy of this statement.

Useful information