HM Revenue and Customs (HMRC) governs pensions savings. There are two main allowances for pension savings, an annual allowance and lifetime allowance. 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.
- 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 PPS) are in excess of the annual allowance, the excess will be taxed as income.
The Government reduced the AA from £255,000 to £50,000 from 6 April 2011 and then reduced it again to £40,000 from 6 April 2014. Further changes to the annual allowance have been made for higher earners from 6 April 2016, which resulted in a tapered annual allowance for these members. Work out your own tapered annual allowance.
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 £40,000, or, if it does they are likely to have unused allowance from previous years that can be carried forward.
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 (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.
For more information on the current annual allowance, annual allowance taper for higher earners and available protections, refer to the HMRC website.
- Budget changes to Annual Allowance 2020
HM Revenue and Customs have produced the following statement after annual allowance changes were announced in the Spring Budget 2020.
In the Spring Budget 2020, the government announced increases to the threshold income and adjusted income limits that you use to work out your tapered annual allowance. From 6 April 2020, the adjusted income limit will rise to £240,000 (increased from £150,000) and the threshold income limit will rise to £200,000 (increased from £110,000).
The Chancellor also reduced the minimum reduced annual allowance that you can have under the tapering rules from £10,000 to £4,000.
What is annual allowance?
The annual allowance is the most you can save in your pension schemes each year with the benefit of tax relief.
For 2020 to 2021 the annual allowance is £40,000 but if you have a high income, your pensions annual allowance may be lower than £40,000.
This tapering of the annual allowance is applied depending on your income within the tax year and applies to all pension savings that you make or that are made of your behalf.
Will the tapered annual allowance apply to me?
To see if the taper applies to you, you'll need to work out your:
- net income in that tax year
- pension savings in that tax year
- threshold income in that tax year
- adjusted income in that tax year
From 6 April 2020, you'll have a reduced ('tapered') annual allowance if both:
- your threshold income is over £200,000 (this was previously £110,000)
- your adjusted income is over £240,000 (this was previously £150,000)
You won't be subject to the tapered annual allowance if your threshold income for that year is £200,000 or less, no matter what your adjusted income is.
What effect does the tapered annual allowance have on my savings?
If you're subject to the tapered annual allowance, for every £2 your adjusted income goes over £240,000, your annual allowance for that year reduces by £1.
From 6 April 2020 the minimum that this can reduce to is a tapered annual allowance of £4,000.
For 2020 to 2021 an individual with an adjusted income of £300,000 will exceed the adjusted income limit by £60,000. The individual's annual allowance would be reduced by half of this, so by £30,000. Leaving them with a tapered annual allowance of £10,000 (the standard annual allowance of £40,000 less the £30,000 reduction under the tapering rules).
For 2020 to 2021 another individual earns £330,000. Their income exceeds the adjusted income limit by £90,000. Their annual allowance should be reduced by £45,000 (the standard annual allowance of £40,000 less the £45,000 reduction under tapering rules).
However the minimum that the annual allowance can reduce to under the tapered annual allowance rules is £4,000. So, this individual will have a tapered annual allowance of £4,000.
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.
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 2016 to 2017 £10,000 £30,000 2017 to 2018 £4,000 £36,000 2018 to 2019 £4,000 £36,000
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.
- Lifetime Allowance (LTA)
If your pension savings are worth more than £1,073,100 you may need to protect your pension savings from the lifetime allowance tax charge.
What is the lifetime allowance?
The lifetime allowance is the amount of savings you can take from your pension schemes without facing a tax charge.
The lifetime allowance is currently £1,073,100. From 6 April 2020 if you take more than £1,073,100 from your combined pension savings, you may face a tax charge.
How much is the lifetime allowance tax charge?
The lifetime allowance tax charge is:
- 55% of any amount you take from your pension savings as a lump sum that is over the lifetime allowance
- 25% of any amount you take from your pension savings as pension income that is over the lifetime allowance
Do you know the value of your combined pension funds?
The lifetime allowance applies to the value of your combined UK registered pension schemes and some overseas schemes. Your pension scheme administrator(s) may already send you information that will help you to find out the value of your combined pension savings. If not you should contact your pension scheme administrator(s) for more information.
This information will help you if you need to apply to protect your pension savings from the lifetime allowance tax charge.
How do I work out the HMRC value of my PPS benefits for the LTA?
HMRC value your pension pot for the Lifetime Allowance (LTA) as 20 times your annual pension plus any lump sum.
If you pay into an AVC, the current value of the AVC fund will need to be added to the total pension pot.
You can therefore work out the current value of your PPS pension for lifetime allowance purposes by taking the annual pension amount shown on page 2 of your latest annual benefit statement and multiplying it by 20 and adding on any amount shown in the automatic lump sum box.
This will only give you the value of your current PPS benefits in the Hampshire Fund. If you have any other pensions you will need to take these into account. Contact your pension administrator for the current value of any other pensions which you have.
Do I need to do anything now?
If you are agreeing salary and pension contribution levels with your employer for next year, increases in contributions to your pension schemes based on higher earnings may mean you exceed the lifetime allowance.
You may need to act to protect yourself from a tax charge even if you are not yet nearing retirement.
If you have existing protection but know that you may lose this you may also need to consider whether to apply for the new protections.
What do I need to do to protect my pension savings?
You can now apply to HMRC for one of two LTA protections. These will be known as fixed protection 2016 and individual protection 2016.
You can apply for these protections by using the government self-service system which was introduced in July 2016.
Your pension savings may already be protected
The lifetime allowance was introduced in 2006 and was reduced in 2012 and again in 2014.
Each time the lifetime allowance reduced, people who had already planned their pension savings on the basis of the higher lifetime allowance could protect their pension savings by applying to HMRC and should have received a certificate to confirm their protection.
However you may still be subject to the lifetime allowance charge if you lose this protection.
- Useful information