14th October 2010
Changes to pension allowances – updated 15/10/10
Update 18th October 2010: HM Treasury has now published the changes it plans to make to tax relief in April 2011 and April 2012.
From April 2011 the government plans to change the allowances for pension tax-relief. This is one of those rare occasions when the reduction of a tax perk can be a good thing.
Read this if…
You have a pension which is receiving, or may receive, contributions from you or an employer.
If any of the following points apply to you, contact us or your own financial planner for further advice:
Before April 2011
- You make, or plan to make, total contributions of £20,000 or more (including those from an employer) and in the 2008/09, 2009/10 or 2010/11 tax years earned £130,000 or more from ALL sources (including interest, dividends and rent etc).
- You earn less than £130,000 and plan to make contributions (including those from an employer) of more than 100% of your salary (but NOT dividend) if in employment or profit share if in partnership.
- The total value of your pension funds is £1.5 million or more, even if you have Enhanced Protection.
After April 2011
- You have a final salary pension and expect your annual pension entitlement to increase by more than £4,000 a year. (There are examples below to show who this may apply to).
- You plan to make contributions (including any from an employer) of more than £50,000.
Either Before & After April 2011
- You are a Controlling Director and plan employer contributions of more than 100% of your salary (P60 and P11D but NOT dividends).
Background
The rules on pension tax-relief became a mess as the last government restricted tax-perks for high earners. The new government can’t reverse all the restrictions at this time for political reasons, but it will make the rules clearer. This is good news because it means you will be less likely to break the rules by mistake and suffer a tax-charge.
The mess we’re in now
For everyone
Under the current rules an individual is eligible for income tax relief on pension contributions in a year where:
- The individual pension contributions do not exceed the higher of £3,600 or 100% of relevant UK earnings (see Jargon Buster); and
- The total amount contributed (including employer contributions) does not exceed the Annual Allowance.
Currently the Annual Allowance is £255,000.
The Lifetime Allowance (currently £1.8 million) restricts the benefits available to pension funds worth more than this amount.
For high earners
Until April 2011 we will suffer the madness that is anti-forestalling and the Special Annual Allowance. In brief, for people earning over £130,000 in 2010/11 (from ALL sources) tax-relief is restricted to total contributions of £20,000 (or £30,000 in some cases). The income calculation is absurdly complex and the penalties for exceeding the limits are excessive.
For controlling directors
We also have the uncertain mess created by provisions in the Business Income Manual (BIM 46035, 47105 and 47106) which cover whether or not employer pension contributions for Controlling Directors can be treated as a trading expense for the purposes of Corporations Tax.
Proposed changes
From April 2011 the Government plan to make the following changes:
- End the Special Annual Allowance for high earners.
- Reduce the Annual Allowance for everyone to £50,000.
- If you contribute more than £50,000 you will be able to offset this against any unused allowances from the previous three years.
- Reduce the Lifetime Allowance to £1.5 million (from April 2012).
- Tax-relief will not be capped at 40%. So 50%-rate tax payers will get full relief on their contribtuions.
- Members of final salary schemes will have increases in pension valued using a factor of 16.
- The exception to the Annual Allowance where pension benefits are brought into payment witin the same tax-year of the contribution being made will be removed.
- Enhanced Protection, which allowed some large funds to avoid the penalties for being larger than the Lifetime Allowance will end.
We know of no changes to the Business Income Manual affecting employer contributions for Controlling Directors.
Final salary pensions
For members of final salary pensions every £1 increase in annual pension entitlement counts as £16 for the Annual Allowance. So anyone whose pension entitlement increases by more than £3,250 will be caught by the new Annual Allowance. This will disproportionately affect members coming up to retirement. See this example for members in a 60ths scheme:
If the member has 39 years of service and earns £50,000 the pension entitlement is £32,500 a year. If this member has a pay rise of more than £3,438 next year he will fall foul of the new Annual Allowance.
If a different member has only 19 years service and earns £50,000 the pension accrued is £15,833 a year. This member can receive a pay-rise of £6,874 before they fall foul of the new Annual Allowance.
There will be a number of easements to help scheme members who receive “spiky” benefits. We would recommend you obtain independent financial advice if you have any queries about this.
Same changes may be in force now
If you are a member of a scheme with a Pension Input Period (PIP) that at starts between 14th October 2010 and 5th April 2011 then you will be affected by the reduced Annual Allowance before April 2011. Fortunately, most personal pensions and SIPPs align their PIP with the tax-year. It is members of occupational schemes that are most likely to be affected. PageRussell will be alerting our clients with SSASs that are affected by this.
Heading in the right direction
On balance PageRussell believe the Annual Allowance reduction is a reasonable price to pay to end the Special Annual Allowance madness. Whilst we are now more confident that these are changes that will apply next April, there is still time for the Government to change its mind. We will publish updates on these changes when available. In the meantime if you have any queries please email Tim Page at ku.oc.llessuregapnull@mit
More information is available from HM Treasury.
Important declaration
This document does not recommend you buy, redeem or vary any regulated investment. It is believed to be accurate as at 18th Ocotber 2010; however no warranty is given as to its accuracy and no responsibility can be accepted by Page Russell Ltd for any action taken in reliance on its contents.
