Restricted pension contributions for those with income over £150,000 came in for the 2016/17 tax year. Those who have inadvertently overpaid will face surprise tax bills, as the deadline for filing tax returns for 2016/17 looms at the end of January.
In this release:
- Restricted pension contributions for higher earners – the tapered annual allowance at a glance
- What to do if you have overpaid
New data from the Office for National Statistics (ONS) tells us more about who is affected.
- 131,000 employees earn over £150,000: 85% are men, almost 60% are based in London and 35% work in financial services
- Highly complex rules mean far more people will be impacted than just these employees, as income from other sources like dividends, property and interest are also included, as well employer pension contributions
- Around 364,000 people could be impacted when other income is included
- Upwards of 11 million tax returns are due to be completed, with 18% expected to be filed in January based on previous history
Nathan Long – Senior Pension Analyst at Hargreaves Lansdown:
"The rules for higher earners wanting to pay into pensions are now fiendishly complex. We expect the last minute rush to file tax returns will leave many realising they face a tax bill courtesy of the latest raid on pensions. Employers in London in particular look set to be inundated with queries from higher earners who are facing up to a tax charge.
This huge disruption based on a small number of people really highlights the need for wider reform to pension taxation, as opposed to the continued salami slicing we have seen in the past. Governments and regulators must realise that while these rules impact on higher earners only, the trickle down complexity to all pension savers is a very high price to pay."
Restricted pension contributions for higher earners – the tapered annual allowance at a glance
The main problem is the rules are so fiendishly complex. The taper is a reduction to the standard £40,000 annual pension contribution allowance, based on an individual’s total income for the tax year. £1 of annual allowance is withdrawn for every £2 of income above £150,000. Once adjusted income exceeds £210,000, the Annual Allowance bottoms out at £10,000.
In the worst case, someone could lose £30,000 of Annual Allowance, resulting in them having to pay a tax bill of £13,500 (45% tax on an excess contribution of £30,000).
The definitions of income includes variable payments such as dividends, bank interest, rental income, bonuses and unapproved share schemes. The definition must also account for employer pension contributions. As a consequence, it is absolutely impossible for an employer to know an employee’s total income in advance of the end of the tax year and provide assistance; it is also very challenging for many individuals to know their total income. This in turn means they won’t know for sure what their annual allowance for the year is.
What to do if you have overpaid
For those who have overpaid, all may not be lost. It is possible to carry forward unused contributions from previous tax years dating back to 2013/14 and use them in the current year. To benefit from this rule you needed to be a member of a UK registered pension scheme in the years where you are bringing forward unused relief. The amount you can carry forward depends on how much unused annual allowance you have in each of the last three tax years. You must include your own pension contributions, any made by your employer and the value of any benefits built up in a defined benefit (e.g. final salary) scheme.
This is a hugely complex and many people affected would benefit from taking professional advice to see how it impacts them personally. Alternatively, our online carry forward calculator may also be helpful.
If you cannot carry forward unused contributions to offset the tax, it may be possible for your pension provider to deduct the tax due from your pension. Alternatively you can pay the tax as part of your tax return.
An example of how carry forward works with the tapered annual allowance.
In 2016/17 David’s salary was £150,000, he received a bonus of £10,000 and an employer pension contribution of £15,000. He also received dividends of £5,000, making his total income plus the employer pension contribution £180,000.
His annual allowance is reduced to £25,000. This because he is £30,000 above the £150,000 level and for every £2 his annual allowance is reduced by £1. This reduces his allowance by £15,000 from £40,000 down to £25,000.
David paid pension contributions personally of £20,000, making the total pension contributions when combined with those of his employer £35,000. He exceeded his reduced annual allowance by £10,000 and is potentially facing a tax charge of £4,500 (45% of £10,000).
David can look back at what he paid into pensions in the last 3 tax years to see if he has any carry forward available. He used his full allowance in 2014/15 & 2015/16 but in 2013/14, when the annual allowance was £50,000, he only paid pension contributions of £30,000. This means he can carry forward an unused allowance of up to £20,000 to 2016/17, which means he doesn’t have to pay the £4,500 tax charge.