Busy LivesAs we clear our heads from the Christmas and New Year excesses, our thoughts turn to the next annual milestone – the end of the tax year.

There are big changes afoot with regard to pension limits for higher earners. Not for the first time, these lead to a short-term opportunity to make the most of the rules now before they are changed for good.

 

What’s changing?
There are two main changes coming in from 6 April 2016:

  • How much you can have in your pot in total
  • How much you can pay in

Build-up of pension savings
The total amount you can hold in your pension pot is called the Lifetime Allowance. It is reducing from £1.25m to £1m on 6 April 2016.  If your pension savings exceed this amount when you take your benefits, you will be subject to a tax charge at the rate of 55%. Obviously we want to help you avoid this charge wherever possible and we can help by valuing your overall pensions and seeing where you stand.

If you are already at the maximum level there are transitional protections you can put in place.  We can advise you on how to do this and what your options are. But the deadline is looming large so don’t delay!

Paying towards a pension
The maximum amount you can contribute to a pension each year is known as the Annual Allowance and is also changing! The effect it will have on you depends on how much you earn:

If you earn… Action needed now
…less than £110,000 a year (including any bonuses) Put your feet up, you won’t be affected by the change

…more than £110,000 a year but under £150,000 a year

 

You may be affected if you and your employer contribute to a pension plan and you have other income such as rental income or are due a  bonus shortly

…more than £150,000 a year Stop what you’re doing and read this! You will be affected

 

If you are in the bottom box for those who earn more than £150,000 a year, the rate of reduction in the Annual Allowance is £1 for every £2 that your “adjusted income*” exceeds £150,000, up to a maximum reduction of £30,000.

Here’s what this means for different levels of earnings:

Your earnings*

Your current Annual Allowance Reduction to be made Your Annual Allowance from 6 April 2016

£100,000 a year

£40,000 a year (n/a) £40,000 a year

£120,000 a year

£40,000 a year (n/a )

£40,000 a year

£160,000 a year

£40,000 a year (£5,000 a year)

£35,000 a year

£200,000 a year

£40,000 a year (£25,000 a year)

£15,000 a year

£210,000 a year £40,000 a year (£30,000 a year)

£10,000 a year

£220,000 a year £40,000 a year (£30,000 a year)

£10,000 a year

 
* For these purposes, the government uses a term known as “adjusted income”. This adds back any employer pension contributions to overall income to prevent individuals from avoiding the restriction by exchanging salary for employer contributions to a pension plan. So if you have income (excluding pension contributions) in excess of £110,000 but when the value of any other income, including pension contributions (yours and your employer’s) are added it takes your income to over £150,000 a year, you will be affected.

The annual allowance cannot go below £10,000 a year, so the maximum income affected by this measure is £210,000 a year.

What does this mean?
In short it means if you have been making maximum pension contributions each year and your adjusted income is over £150,000, you will not be able to pay as much to a pension as previously and still get tax relief.

Anything else I need to be aware of?
The general consensus in the industry is that there is likely to be an announcement in the budget that will restrict tax relief on pensions in future to a rate of around 25%-30% instead of the “highest marginal rate” as it is now. This view follows the announcement by the Chancellor of a “consultation” on pensions tax relief in his interim budget in July last year.

Why are these changes being made?
There are plenty of arguments to say that the tax relief system is too generous, however, this will severely affect individuals’ ability to contribute effectively to pensions to build up a big enough pot to retire on.

What action can I take?
If you will be affected by the reduction in the Annual Allowance, there is an opportunity to maximise the tax relief available to you before the end of the tax year. But only if you take action now.

As with all these things it’s quite complicated but, in a nutshell, you have two lots of £40,000 annual allowance that you can potentially use.

  • The Chancellor made these announcements in the emergency budget last year, so the amount you paid into your pension up until that point (9th July) is an important figure.
  • In effect he reset the clock on pension contributions on that day, so any payments made prior to 9th July have been discounted from this year’s annual allowance so you can pay a further £40,000 in the period 9th July 2015 – 5th April 2016.

So if you had already made the maximum £40,000 contribution before 9 July 2015, you can pay a further £40,000 into your pension before the end of this tax year.

An example of how this works is given below:


 

Bob has been paying £2,000 a month gross to a pension plan on 6th of each month since 6 April 2015.

So in the current tax year he has therefore paid:

£8,000 up to 9 July 2015; and
£16,000 after 9 July 2015

As any payments made before the 9 July are effectively discounted, the maximum lump sum contribution Bob can make before the end of this tax year is £24,000.

So the overall amount he will have contributed to his pension in 2015/16 will be

Regular contributions = £8,000 + £16,000
Single contribution     = £24,000
Total into his pension = £48,000.


 

Regardless of how much you had actually paid in up to 9 July 2015, you can utilise unused relief from the three previous tax years (assuming you were a member of a pension scheme during this time). There are some complexities around how this is reached, however, we will be able to calculate this for you.  To give you an indication of how this works, there is another example below. 

Jan has also been paying £2,000 a month gross to a pension plan since 6 April 2015 on 6th of each month. Earlier last year Jan sought our advice about paying as much as she could into her pension before the Chancellor’s emergency budget just in case any changes were made. She subsequently made a lump sum contribution of £32,000 on 1 July 2015.

So in the current tax year she is on course to have paid:

£40,000 up to 9 July 2015 (£8,000 regular and £32,000 single); and
£16,000 regular contribution after 9 July 2015

She can now make another £24,000 contribution before the end of the current tax year, bringing the total up to £80,000 for 2015/16.

In addition, Jan was a member of a company pension scheme before April 2015 but did not maximise her contributions in the tax years 2012/13, 2013/14 and 2014/15 and still has £10,000 a year of tax relief available now.  Therefore she can pay in a further £30,000 overall to utilise unused tax relief from previous years, making a total contribution of £110,000.

Luckily, Jan now earns £120,000 a year, as if she earned less than £110,000 a year she would be restricted to paying in 100% of her earnings.


 

Getting help
As we said at the beginning, these are big changes with regard to pension limits for higher earners but there is a short-term opportunity to make the most of the rules now before they are changed for good.

We can help you understand how these rules apply to you, exactly how much you could pay into a pension now and what impact the rules will have on your future contributions as you may need to speak to you employer about what they are intending to do once these changes are implemented.

Please call/email your Logic Financial Services adviser if you need help.  But the deadline is looming large so don’t delay!