In the context of the recent news repeating the warning that there could be a raid on pensions (e.g. reductions in the Annual Allowance and/or Lifetime Allowance) in order to help recover the costs of Covid-19, our Focus this month is an important reminder for all those who are members of a pension scheme – whether a personal pension plan or a company defined benefit scheme – that they should review their pension planning, especially if at risk of exceeding the Annual or Lifetime Allowance, or having unused reliefs from previous years.
So here are a few, five actually, questions for you to answer that might provoke that review. Helpful as ever, we’ve offered some answers as well! They are not comprehensive but may offer pointers that could be followed up.
Q. What is the Annual Allowance?
A. Your standard pension Annual Allowance is the annual limit on the amount of contributions paid to, or benefits accrued in, a pension scheme before the member has to pay tax. It is based on your earnings and other income and is currently capped at £40,000 in the tax year 2021-22 or 100% of your earnings if less than £40,000 and is the total amount of all contributions to personal pensions (defined contributions) on which you can receive tax relief. Your annual allowance is made up of all contributions to your pensions made by you, your employer, and any third party (including pension tax relief).
Know your PIPs! The Annual Allowance applies to total pension contributions made to your personal pension plans, or to the benefits built up within a defined benefits scheme, over your plan’s/scheme’s Pension Input Period that ends in the current tax year.
Q. What is Tapered Annual Allowance?
A. The Annual Allowance of £40,000 may be reduced or ‘tapered’ if your ‘threshold income’ (your annual income before tax less any personal pension contributions and ignoring any employer contribution) is over £200,000.
If your threshold income is above £200,000, then you need to check if your ‘adjusted income’ (your annual income – broadly all income that you are taxed on including dividends, savings interest and rental income – before tax plus the value of your own and any employer pension contributions) is over £240,000. If it is above £240,000, the annual allowance will reduce by £1 for every £2 that your ‘adjusted income’ exceeds £240,000.
Q. What is the Money Purchase Annual Allowance (MPAA)?
A. The MPAA is the maximum amount you can pay into your money purchase (also known as defined contribution) pension in a tax year after you have started to take money from your pension pot in certain ways. Currently capped at £4,000.
If you become subject to the MPAA you will not be able to use unused annual allowance from previous years to contribute more than your annual allowance to a money purchase pension arrangement.
Q. What is the Annual Allowance Charge?
A. This is the rate of tax you pay for any contributions over your Annual Allowance or MPAA in a tax year, currently set at your highest marginal rate of income tax.
Q. What is the Lifetime Allowance?
A. The Lifetime Allowance is a cap on the amount of pension benefit you can build up over your lifetime. The Lifetime Allowance for most people for 2021-22 is £1,073,100.
If the value of all of your pension benefits, across all schemes, exceeds the lifetime allowance, any excess attracts a tax charge of 25% if it is withdrawn as an income (for instance from an annuity or a drawdown arrangement) or 55% if it is withdrawn as a cash lump sum.
We advise you to regularly review your pension planning and, inter alia, to check:
(*) if you are exceeding the Annual Allowance – otherwise you will not receive tax relief and you will pay an Annual Allowance Charge (see above);
(*) if you have, or are in danger of, exceeding the Lifetime Allowance – in view of the potential tax charges;
(*) if you have any unused reliefs from the previous three years – because you may be able to use the Carry Forward provisions to enhance this year’s contributions above the annual cap.
NB The above notes are necessarily brief and only cover some of the main points. The pension rules are complex and, as always, we strongly recommend that you seek advice in time to take any appropriate action.
Remember, we are here to help so please do not hesitate to contact us regarding any of the above aspects, your pension planning, and your financial planning needs – Reviews are part of our added-value services for our clients.
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Barry Fleming & Partners are an independent financial advisor specialising in ISA’s, Pensions, Tax, Trusts, Estate Planning, Inheritance Tax Planning (IHT) and other Financial Planning areas. Please don’t hesitate to call on 01488 608 686 and ask to talk to one of our financial advisors. Alternatively use the contact form on our home page.