Pension contributions

‘Maximum’ pension contribution

Strictly, there is no limit on the amount of pension contribution that you and your employer may pay. There hasn’t been since 2006.

Similarly, as long as you don’t pay more than your ‘net relevant earnings’ – salary, taxable benefits etc. – you may initially receive tax relief in full on any personal contributions you make. Likewise, your employer’s contributions are not taxed as pay or as P11d benefits.

 The annual allowance

However, once the tax year is over, the total gross contributions paid by or for you are compared with your ‘annual allowance’ and, to the extent you are over that, you have to pay Income Tax on the excess – the ‘annual allowance tax charge’, thereby negating the tax relief you initially received.

So, it pays to self-impose a limit pitched at your annual allowance.

You should also rein yourself in so that you do not personally pay more than your net relevant earnings (if less than the annual allowance), although the employer contributions are not capped at earnings.

The standard annual allowance as at August 2024 is £60,000, and has been since the 2023/24 tax year. It was previously £40,000. See table below.

However, the standard allowance is ‘tapered’ (i.e. reduced) for those on a ‘high income’.

Known as ‘adjusted income’, ‘income’ for this purpose is any income subject to UK Income Tax, not just earnings from employment/self-employment. It includes pension income, dividends, interest, rental income, etc. Crucially, it also includes employer contributions paid and you must also ‘add back’ any personal contributions if these have served to reduce your taxable salary.

High income, where tapering begins, is £260,000 for 2023/24 onwards.

However, even if your ‘adjusted income’ is more than £260,000, tapering does not apply if your ‘threshold income’ is less than £200,000. Threshold income is, similarly, any income from any source that is subject to UK Income Tax but after deducting gross personal pension contributions and without having to add on employer contributions. That is, unless the employer contribution is in return for a salary sacrifice arrangement that started after 8 July 2015.

The taper

If it applies, the taper serves to reduce the standard annual allowance – £60,000 – by £1 for every £2 of adjusted income over £260,000.

For example, if adjusted income is £280,000, the £20,000 ‘excess’ will reduce the standard annual allowance – £60,000 – by £10,000 to £50,000.

The maximum taper from 2023/24 is £50,000. Put another way, for those with adjusted income of £360,000 or more, a fully tapered annual allowance of £10,000 applies.

The level of standard annual allowance, adjusted income, threshold income and maximum fully tapered annual allowance have changed over time – see table. Although the rate of tapering (£1 for every £2 excess income) has been a constant.

Carrying forward unused annual allowance

If you exceed your annual allowance – standard or tapered – in a tax year, then you may carry forward any unused standard/tapered annual allowance from the three previous tax years. Assuming, that is, you had a pension plan in existence in the earlier year.

Final salary/defined benefit pension schemes

The above applies to ‘defined contribution’ pension arrangements – typically contributions are paid into an investment fund in the pension plan. While ‘tapering’ and its inherent concepts/limits apply equally to active membership of a final salary/defined benefit pension schemes, it has nothing much to do with ‘contributions paid’.

Instead, the focus is the deemed real increase (i.e. over and above inflation) in the value of the defined retirement benefit (i.e. eventual annual pension and lump sum at normal retirement age) over the course of the tax year. That calculation is detailed but clearly prescribed. It is easier all round to ask the pension scheme administration team to confirm your ‘pension input amount’.

Paying the annual allowance tax charge – ‘Scheme Pays’

By default, the annual allowance tax charge is your liability. It is reported and settled via self-assessment.

For example, an annual allowance tax charge arising in 2023/24 must be reported on your 2023/24 tax return and the charge settled by 31 January 2025.

Alternatively, you might look to the annual allowance tax charge being paid by the pension scheme (Scheme Pays), albeit it will be deducted from your pension fund (defined contribution) or by adjustment to your eventual retirement pension/lump sum (final salary/defined benefit).

Scheme Pays can be:

Mandatory – to the extent that the charge is a result of you being in excess of the standard allowance – £60,000 – the pension scheme is obliged to pay the tax charge for you if that is what you elect. Other conditions for mandatory Scheme Pays being:

• The charge is at least £2,000
• The charge is reported as Scheme Pays on the tax return, the scheme details being included
• You submit the election to the scheme administrator by 31 July following the 31 January due date, e.g., by 31 July 2025 for a tax charge arising in 2023/24 and reported on the self-assessment tax return due by 31 January 2025.
• Where mandatory conditions are met, the scheme administrator becomes responsible for dealing with the tax charge.

Voluntary – to the extent that a tax charge does not meet the mandatory requirements – most notably, the extent that it relates to you being in excess of the tapered annual allowance and not the standard allowance; or you miss the 31 July deadline – you can still ask the scheme to pay it, but it is not obliged to do so. However, most schemes seem happy to do so. The key issue here is that the ‘voluntary’ tax charge, even if paid by the scheme, remains your personal liability. If HMRC receives it after 31 January (e.g. 31 January 2025 for a 2023/24 charge) you remain liable for any late payment charges and interest – those certainly cannot be put through Scheme Pays anyway. You will need to be prompt in asking the scheme about voluntary Scheme Pays if they are to process that and settle by the 31 January due date.

Pension savings statements

If aggregate contributions to a single defined contribution plan are more than the standard allowance, or if the ‘pension input amount’ for a defined benefit scheme is more than the standard allowance, then the scheme administrator is obliged to send you a pension savings statement by 6 October, which will confirm the amounts as well as the three prior year details.

While obviously helpful, especially as defined benefit pension input amounts are far from instinctive, this does not address or warn you if your allowance is tapered or if you have several pension arrangements on the go – any one being within the allowance but the aggregate being in excess. It remains your responsibility to monitor your own annual allowance position and, where necessary, ask the pension providers for pension savings statements if you are unsure.

Money purchase annual allowance (MPAA)

The MPAA is triggered when you first ‘flexibly access’ a defined contribution pension plan, such as a personal pension plan. From that moment on, the annual allowance for any further contributions to such plan is fixed at £10,000. Also carry forward no longer applies.

While taking the retirement ‘tax-free cash’ alone does not trigger the MPAA, drawing an income on the balance might – depending on the nature of that income. As might other forms of retirement withdrawal.

The remainder of any standard/tapered annual allowance (i.e. over and above any defined contributions) continues to be available to active membership of a defined benefits scheme.

Would you like to know more?

If you have any further questions on the above, or if you’d like us to look into your personal situation, please get in touch with your usual Blick Rothenberg contact or Martin Reynard using the form below.

Please note that we cannot provide investment advice and you should consider seeking advice from an independent financial advisor before committing to any course of action that affects your investment portfolio.

Disclaimer:

This article is intended to give you an insight into the tax treatment of pension contributions. It is not a comprehensive technical paper and should not be relied upon in deciding the ‘right’ level of pension contributions for you, especially if total contributions are at or around the annual allowance, your income is high, or your proposed personal contributions are prospectively more than you actually earn.