What is it?It’s an annual limit on:
- The total payments that you, your employer and any third party can make to all your defined contribution pension plans (excluding transfer payments) before you’d be liable to further income tax.
- The amount of benefits built up under defined benefit schemes before you’d be liable to further income tax.
How much is the annual allowance?The standard annual allowance, for tax year 2020/21, is £40,000. However, certain factors may lead to you having a lower annual allowance.
A lower annual allowanceCircumstance in which you annual allowance could be tapered or reduced:
Where your ‘adjusted income’ – that’s your total income from all sources, (and not just employment income) together with employer pension contributions – exceeds £240,000, your annual allowance will be reduced by £1 for every £2 of adjusted income above that amount. This is known as tapering and continues until your annual allowance reaches £10,000 (when your adjusted income is £312,000 or more).
If you’ve also started to take an income from a defined contribution pension, you may have a reduced annual allowance of £4,000, thanks to the Money Purchase Annual Allowance (MPAA).
Money Purchase Annual Allowance (MPAA)If you begin to take money from a defined contribution pension, you may trigger what’s known as the Money Purchase Annual Allowance or MPAA which is £4,000 per annum.
The MPAA is designed to stop people ‘recycling tax relief’ by taking money out of their pension and putting it straight back in again, effectively claiming tax relief twice.
It’s important to understand the implications of taking an income from your pensions for the first time – you will be significantly restricted in how much you can continue to pay into your pension.
The MPAA does not apply to annuities or if you’ve only taken tax free cash from your pension.
Carry forward of unused allowancesYou may be able to carry forward any unused annual allowances form the previous three tax years.
This could let you pay in more in this tax year to make the most of the tax relief on offer. Or, it could enable you to reduce or eliminate the annual allowance charge.
Not available where the MPAA applies.
What if I exceed the annual allowance?A variable tax charge applies to any payments made that are above the annual allowance. This is linked to your income tax bracket. In some circumstances you may be able to pay the charge from your plan.
Who should be concerned?
- If your total annual income is around (or exceeds) £200,000.
- If you’re thinking of accessing money from your pension for the first time.
- If you’re in a defined benefit pension.
This is a complex area and advice is recommended. Please speak to your 1825 Financial Planner if you’d like to find out more about the Annual Allowance for Pensions.
Remember, tax rules and legislation can change and the value of tax benefits depends on your individual circumstances. The value of investments can go down as well as up, and could be worth less than what was paid in. The information in this blog or any response to comments should not be regarded as financial advice. Information correct as at April 2020.