Pension funding changes for high earners
On 6th April 2016, we will see the introduction of new pension legislation in respect of the annual allowance; the annual limit on which pension funding may attract tax relief, subject to earnings. In recent years, the annual allowance has already been reduced by 84% from its zenith of £255,000 in 2010/11 to £40,000 in 2014/15 – see table below. As a result, the ability to fund pensions for relatively high earners has been significantly impacted. The changes afoot this time round could see a further 75% reduction to the current allowance depending on an individual’s circumstances.
10 Years Annual Allowance History
2006/07 £215,000
2007/08 £225,000
2008/09 £235,000
2009/10 £245,000
2010/11 £255,000
2011/12 £50,000
2012/13 £50,000
2013/14 £50,000
2014/15 £40,000
2015/16 £40,000
2016/17 £10,000 – £40,000
Post 5/4/2016 Rules – The Taper Annual Allowance
From 2016/17, the allowance will be held at £40,000 as per 2015/16. However, where an individual’s adjusted income exceeds £150,000 – and certain threshold conditions are met – their annual allowance will be reduced by £1 for every £2 of allowance (the taper annual allowance) to a de minimis limit of £10,000 (when earnings breach £210,000). Thus, some high-earners will be in a position that further meaningful pension funding is off the table. For more, this pain will be felt simply by virtue of employer contributions into corporate pension schemes e.g. a 10% of salary employer contribution for an employee earning in excess of £210,000.
As usual, apathy rules in the world of pension planning and many will muddle along with their busy lives unaware of the change until their annual allowance charge arrives. However, there are some planning points that may be taken advantage of:
Carry Forward
In addition to the prevailing annual allowance in place at the time, you may also carry forward any remaining annual allowance from the previous three tax years. This represents an opportunity to fund up to £180,000 ahead of the 2015/16 tax year end; before the final availability of the £50,000 annual allowance (2013/14 – see table above) falls away and the taper annual allowance potentially bites.
Marginal Income Tax Relief at 60%
Individuals earning in excess of £100,000 will be aware that their personal allowance – the £10,600 (2015/16) that may be earned tax free is reduced by £1 in every £2 above this point. Essentially, your personal allowance is then lost when earnings exceed £121,200 (2015/16) or £122,000 (2016/17). However, well-planned pension funding can offset this position in order that the personal allowance is ‘won back’ in whole or in part. This delivers an effective rate of tax relief of 60% on that tranche of income between £100,000 and £121,600 (15/16) or £122,000 (16/17) , as well as the usual 40% relief for higher rate taxpayers and the 45% relief available to additional rate taxpayers on the remainder of income taxed relieved at these rates.
However, the ominous threat of the taper annual allowance awaits post-5th April 2016 which may inhibit the ability to carve out this situation. The calculations and planning around them can become fairly involved, particularly when individuals remain active members of defined benefit (nee final salary) pension schemes and where transitional pension input periods can muddy the waters. As such, the proper advice can add tangible value. If you would like a confidential, no-obligation appraisal of your current circumstances, please get in touch and make an appointment.
This post is for information purposes only and is certainly no substitute for regulated, independent financial advice. The value of an investment and the income derived from it may fall as well as rise. Returns are not guaranteed and you may get back less than you originally invested. The Financial Conduct Authority do not regulate some forms of tax advice. The information in this post is subject to our understanding of current and – in some cases – expected legislation which may be subject to change in the future.