The budget announcement in March 2020 significantly increased the threshold and adjusted net income amounts which are used when calculating your pension annual allowance and the amount higher earners can put into their pension each year.
The change benefits anyone who has an adjusted net income over £150,000 with the threshold test now starting to bite when it exceeds £240,000. This is a huge shift which if utilised can make a significant difference to your retirement income.
The below chart shows the impact of the taper for those with adjusted net income above the new £240,000 limit.
Obviously for those who were previously caught by the taper on the lower (pre-Budget) income limits, they may now have scope to significantly increase their pension savings and the tax relief that goes with it.
As an example, the table below shows that for an additional rate taxpayer earning £200,000 per year who’s 15 years away from retirement, they’d now be able to put an extra £375,000 into their pension and receive an extra £168,750 in tax relief over that period.
Pre-2020 Budget | Post-2020 Budget | |
|---|---|---|
Total Income | £200,000 | £200,000 |
Maximum Tax Relievable Pension Contributions | £15,000 | £40,000 |
Total Pension Contributions After 15 Years | £225,000 | £600,000 |
Annual Tax Relief Claimable | £6,750 | £18,000 |
Total Tax Relief After 15 Years | £101,250 | £270,000 |
There will also be the opportunity for an increased carry forward of pension contributions (where legislation allows unused contributions from the previous three tax years to be carried forward to the current tax year) moving forwards. But for carrying forward from the 2016/17 tax years to date the old (lower) taper limits must still be used.
Also, if the taper does still bite to a greater or lesser extent, then consideration should be given to making third party contributions, such as making contributions into your spouse’s, partner’s or children’s pension.
Seizing these opportunities may have a profound effect on your pension funding that could translate into a more comfortable retirement or even an earlier one than envisaged.
Sam Barr-Worsfold
Financial Planner at Drewberry
Many pension and financial advice experts, including ourselves, hoped that the March 2020 budget would bring some large reforms in pension tax legislation which would reduce complexity and provide greater prospects for those saving for their own retirement.
Unfortunately this was not forthcoming, but the one change to legislation which has led to an opportunity is for those previously caught by the Tapered Annual Allowance. It is the measure that severely restricted the amount of tax relievable pension savings high earners could make.
Pensions provide shelter from capital gains tax and if set up correctly inheritance tax and of course immediate income tax relief on money paid in. This income tax is given at the highest rate of income tax you pay; so for an additional rate income tax payer the effective cost of adding £1,000 to your pension pot is only £550.
Moreover, for those caught by the 60% personal allowance trap (those earning between £100,000 and £125,000) the income tax savings are even greater.
The pension Annual Allowance (AA) is the annual limit on the contributions paid into, or benefits accrued under, a pension before tax charges apply.
The Tapered Annual Allowance (TAA) was introduced to control the cost of pension tax relief for the Government. It does so by reducing the tax relievable savings an individual could make from £40,000 down to £10,000 if income was above certain limits.
The definition of income is that from all sources; so not only does this cover earned income but also investment income, rental income and savings income to name but a few.
The tapering process is a two-step test.
In HMRC’s parlance, if “threshold income” was above £110,000 then you move to step two and are tested on an “adjusted net income” basis against a £150,000 limit.
Very simplistically, threshold income does not include existing pension contributions whereas adjusted net income adds these back in. These are not the only differences and the actual calculation of them is a little more complicated.
If the adjusted net income limit is breached, then the individual’s annual allowance is reduced by £1 for every £2 it exceed it down to a floor of £10,000 tax relievable pension contributions.
We have the requisite expertise and experience to help guide you through this and other complex planning scenarios and to provide you clarity on what your financial future may look like.
If, however, you choose to handle yours own financial affairs currently, it’s well worth reading our guide on How to Avoid the Top 6 Mistakes DIY Investors Make.
Jonathan Cooper
Senior Paraplanner at Drewberry
📞 01273060042
jonathan.cooper@drewberry.co.uk
The author of this article Jonathan Cooper (DipPFS) is Drewberry’s Senior Paraplanner. Without the hard work of Jonathan and his team, our Financial Advisers wouldn’t be able to do what they do.
Jonathan has an extensive financial services background, qualifications and knowledge of the administrative ins and outs of the industry.
In his time in the industry, he’s worked for both financial product providers and, for the last 7 years, he’s been a Senior Paraplanner, providing expert holistic wealth management technical support to advisers