From 2011/12, the government reduced the annual amount of tax relieved pension contributions from £255,000 to £50,000. This means that the amount of money saved in pensions which is eligible for a tax relief has fallen. As a result, higher-band pension schemes which see regular, larger payments have seen a huge increase in tax payments owed to the government over the last tax year.
With the possibility of the annual amount of tax relieved pension contributions reducing yet further, it is becoming more important for clients who save in pensions to maximise the amounts they are likely to contribute before the allowance decreases anymore.
The annual allowance sets the maximum amount of savings any individual can make in a year to their personal or work pension whilst gaining tax relief payments. If a pension holder’s payments exceed the maximum of £50,000 paid in per year then the holder will be taxed on any payments above the maximum threshold.
The annual allowance amounts can roll-over from the previous three years – so as an example, if your payments for the last three years were £30,000, this would mean that you have an extra £20,000 accrued each year which will be added to the maximum allowance. Three years of £20,000 is £60,000 which is then added to the maximum of £50,000 which would result in you being able to contribute up to £110,000 for the current tax year and still benefit from tax relief issued by the government.
However, if the government were to reduce the maximum annual allowance yet further, we would surely see a huge increase in pension payments received by schemes as the pension holder looks to cash in on the maximum amount of tax relief available before it decreases any further. If any individual’s pension payments were to exceed this new figure they would then be taxed on any amount above the maximum annual allowance. This additional cost is called the annual allowance charge.
In order to ensure individuals are receiving the best possible return on their pension payments, it is advisable to check whether they have exceeded the annual allowance for the previous three years and work out what their new annual allowance will be. This way, it could be quite simple to work out the amounts of pension available for any given working week or month, depending on the individual’s income regularity.
The rates of tax payment change according to various factors. Considerations regarding the annual allowance, the total payments of the pension scheme made by the individual and the overall amount which exceeds the annual allowance once combined will calculate a percentage of taxable allowance which will be deducted automatically before the funds are credited into the pension scheme.
Prior to the changes in the annual allowance, the government charged a flat rate of 40% tax on payments made over the annual allowance for pensions. However, since 6th April 2011, the rate has changed to the marginal rate of income tax meaning that should the annual allowance decrease even further in the near future; any excess payment above the annual allowance will be taxed in the same way as any other form of working income. This could potentially see people being moved into a higher tax bracket which would not be well received.
As mentioned earlier, it would definitely be beneficial to speak to professionals who can speak to you in layman’s terms and explain the best way to tackle the threat of any future decreases in the annual contribution allowance for pensions.
Please get in touch with us to see how we can help with your pensions advice.