In the Spring 2016 edition of the Employer Review newsletter, we explained the latest changes to the amount of UK tax relief that an individual receives for contributions to approved UK and overseas pension schemes.
- A tapered annual allowance was introduced from 6 April 2016. The ‘annual allowance’ remains £40,000 for those with a total income of £150,000 or less. However, this reduces by £1 for every £2 of income above £150,000. For total income of £210,000 or more the allowance is £10,000. This Annual limit covers both an employee’s personal contributions and any by the employer, and contributions to both UK and overseas pension schemes.
- An individual’s pension arrangements are also subject to an upper lifetime limit, known as the Life Time Allowance. Previously as high as £1.8m, it has been systematically reduced since April 2012, and is now £1m since 6 April 2016.
To the extent that aggregate contributions exceed the annual allowance, employees will be denied UK tax relief on their excess contributions, plus pay UK income tax of up to 45% on the employer’s excess contributions. Where more than the allowance is paid in a tax year, it is possible to bring forward any unused allowance for the three prior tax years to reduce or eliminate the excess but certain conditions need to be met.
Important points for employers to now consider:
Exploring alternatives to traditional pensions
- What should the employer communicate to its employees? Employees need to understand how the new rules apply to them or they could face a large tax bill which could come as a surprise.
- Should the employer offer assistance in working out a three year contribution strategy? Any unused allowance from the three prior years will certainly help and might allow contributions to continue at the current level for up to three more years. However, the individual assessment and calculations can be complex.
- The changes also impact those working in the UK but who are members of foreign pension schemes. What happens if foreign rules require a foreign employer to contribute more than £10,000? We believe the excess is still taxable but are consulting with HMRC. How will employers deal
- with this?
- How do you identify affected employees? The pension threshold looks at total income, not just employment income. Will an employee want their employer to know their other income?
The changes have been described as a ‘negative downward spiral’ and in the future more radical changes to pensions are likely. The cumulative changes to pensions are eroding the long term appeal to employees. Therefore employers should consider if current arrangements are still appropriate and an alternative reward strategy, for example cash instead of excess pension contributions?