Annual allowance

These FAQs are for financial advisers only. They mustn’t be distributed to, or relied on by, customers. They are based on our understanding of legislation at the date of publication.

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This page covers the rules relating to the annual allowance. It doesn’t cover the ‘money purchase annual allowance’ (MPAA) rules introduced from 6 April 2015 that apply to anyone who has flexibly accessed pension benefits from a money purchase arrangement. It also doesn’t cover the tapered annual allowance rules for high earners introduced from 6 April 2016. Both the MPAA and the tapered annual allowance are covered in separate FAQ pages. 

The annual allowance is the maximum amount of pension savings an individual can have each year that benefit from tax relief. In practice, an individual is subject to a tax charge (the annual allowance charge) where their pension savings exceed their available annual allowance for a tax year.

There is nothing to stop an individual paying in more than their available annual allowance. An annual allowance charge would be payable on the excess and they would still be able to claim tax relief on all their personal and third party contributions up to the higher of 100% of an individual’s relevant UK earnings or £3,600 per annum. The annual allowance tax charge will probably negate most (if not all) tax relief on the excess above the annual allowance. Current and past annual allowance limits are listed below:

Tax year  Annual allowance
2006/07  £215,000
2007/08 £225,000
2008/09 £235,000
2009/10 £245,000
2010/11 £255,000
2011/12, 2012/13 & 2013/14      £50,000
2014/15 & beyond £40,000

To calculate if an individual has exceeded the annual allowance for a tax year it is necessary to know the ‘total pension input amount’. Pension input amounts are calculated in different ways for different types of pension schemes.

Generally, the pension input amount for a money purchase arrangement such as a money purchase occupational scheme, a personal pension or a stakeholder is the total of all contributions paid by the member, their employer or a third party on the member’s behalf to the arrangement during the pension input period.

For a defined benefit arrangement, the pension input amount is calculated as the increase in the value of the accrued benefits over the pension input period. The increase in value of accrued benefits is worked out by subtracting the ‘opening value’ of benefits at the last day of the immediately preceding pension input period from the ‘closing value’ of benefits at the end of the pension input period. The opening value is nil for the first pension input period and for the second and subsequent pension input periods, the opening value is increased in line with the Consumer Price Index (CPI) before subtracting it from the closing value. A 16:1 valuation factor is then used to calculate the opening and closing values. The CPI figure that should be used for the purpose of calculating pension input amounts and carry forward amounts for defined benefit arrangements is the annual increase in the CPI for the month of September for the previous tax year.  

It’s a period of time which is used to measure the benefits accrued or contributions paid by or on behalf of a member against the annual allowance. Any benefits accrued or contributions paid in a PIP are counted towards the pension input amount for the PIP.

Prior to 8 July 2015, a pension arrangement could only have one PIP ending in a tax year. In practice, Aegon had customers with pension arrangements where the PIP ran in line with tax years and also where the PIP ran in line with some other period. For example, a PIP may have run from 6 April to 5 April, 1 January to 31 December or 1 June to 31 May. The end date of the PIP determined the tax year the contributions made in the PIP were counted against. So, a PIP ending on 10 April 2014 would have counted towards the annual allowance for the 2014/15 tax year. 

It was announced in the Summer Budget Statement of 8 July 2015 that there was to be an immediate change to the PIP rules. In summary, this means that:

  • for existing arrangements, all PIPs that were open on 8 July 2015 were immediately closed on that date. The next PIP will run from 9 July 2015 and will end on 5 April 2016. PIPs will then run in line with tax years from 6 April 2016 onwards.
  • any new arrangements that will have their first PIP starting on or after 9 July 2015 and before 6 April 2016, will see that PIP end on 5 April 2016. PIPs will then run in line with tax years from 6 April 2016 onwards.
  • any new arrangements that will have their first PIP starting in the 2016/17 tax year will see that PIP end on 5 April 2017. PIPs will then run in line with tax years from 6 April 2017 onwards.
  • it will not now be possible for an individual or a scheme administrator to vary the end date of a PIP. 

Further information on PIPs can be found in our ‘Pension input periods’ FAQ page.

 

Since 6 April 2011, it has been possible to carry forward unused annual allowance from the previous three tax years. This can only be done if an individual first uses up the full annual allowance in the tax year they want to use carry forward in.

The use of carry forward allows occasional large amounts of pension savings to be made and may be of use to the self-employed, to employees approaching retirement or those that have received a redundancy payment. Any carry forward amount can be added to the current year’s annual allowance to give an individual a higher amount of available annual allowance. More information can be found in our ‘Carry forward’ FAQs page. 

An individual should only need to pay an annual allowance charge if the total pension savings made by them, their employer or a third party on their behalf are more than the annual allowance for the tax year plus any carry forward amount. The responsibility for working out if an annual allowance charge may be due falls on an individual.

It isn’t possible for a member to request a refund of contributions just to avoid an annual allowance charge. If a contribution is refunded or unapplied for this reason, the contribution is likely to be an unauthorised payment. 

There are situations when pension savings will not be tested against the annual allowance even though the annual allowance may have been exceeded. These are:

  • death,
  • serious or severe ill-health,
  • deferred members. 

More information on this can be found at:

https://www.gov.uk/hmrc-internal-manuals/pensions-tax-manual/ptm051200

Pension savings statements are designed to help people keep track of their pension savings. Where certain conditions apply, a scheme administrator is required to automatically issue a pension savings statement to a member. For a money purchase scheme (such as a personal pension or stakeholder) this would be where an individual has been an active member for all or part of the pension input period and where their total pension input amounts under all arrangements under the scheme are more than the annual allowance for the tax year.

A pension savings statement will confirm the pension input amount for a tax year and also for the previous three tax years. In general, an automatic statement should be issued by 6 October following the end of the relevant tax year.

Where there is no automatic right to a pension savings statement, it is possible for an individual to ask a scheme administrator to issue one. Collecting information on pension savings for every registered pension scheme an individual is a member of will allow the individual to assess whether they have a liability to pay an annual allowance charge. A statement that is requested by the member should be issued by the later of 6 October following the end of the relevant tax year or within three months of the request being received.

Scheme administrators have to report details of any compulsory pension savings statements they have issued to HMRC. This requirement applies to statements for pension input periods ending in the 2013/14 tax year and subsequent tax years and should be included as part of the event reporting process. The event report must be made for the tax year in which the pension savings statement is actually issued to the member. The event report is, therefore, likely to be for a later tax year than the tax year for which the pension savings statement relates. The reporting requirement applies to event reports made from the 2014/15 tax year onwards.

For example, assume a member exceeds their annual allowance for a pension input period ending in the 2014/15 tax year. The scheme administrator must issue a pension savings statement for 2014/15 automatically by 6 October 2015. The pension savings statement is actually issued in June 2015. Even though the pension savings statement is for the 2014/15 tax year, the event report is based on the issuing of the pension savings statement. The scheme administrator in this case must notify HMRC in an event report for 2015/16 that a pension savings statement for 2014/15 was issued to the member. The latest date the event report can be made is 31 January 2017.

More information on pension savings statements can be found at:

https://www.gov.uk/hmrc-internal-manuals/pensions-tax-manual/ptm167000

This covers the pension savings statements requirements for the annual allowance and also the MPAA.

If an annual allowance charge is due, an individual needs to complete a self-assessment tax return to detail the amount their total pension savings exceeds the annual allowance plus any carry forward amount. The section to be completed is the one on ‘pension savings tax charges’ in the ‘additional information’ pages of the tax return. For an online tax return, the tax charge due will be calculated automatically.

The tax charge is calculated by adding ‘reduced net income’ to the excess pension savings and then assessing the level of tax due on the excess amount. Reduced net income is broadly the amount an individual pays tax on for a tax year (taxable income less personal allowances). If a scheme administrator is paying some or all of a charge under ‘scheme pays’, the tax charge should be included on the scheme’s Accounting for Tax Return. The member also has to include details of the charge on their self-assessment form including any amount the scheme is paying. The member will be liable for any remaining charge due.

Example

For the 2015/16 tax year, Tom has £50,000 excess pension savings on which an annual allowance charge is due. His reduced net income is £130,000, so the excess plus the reduced net income totals £180,000. The higher rate tax limit is £150,000 and the basic rate tax limit is £31,785. The total of £180,000 exceeds the higher rate limit by £30,000 so this would be subject to tax at 45%. The tax due would be £13,500.

This leaves £20,000 of the £50,000 excess pension savings. The difference between the higher and basic rate limits is £118,215 (£150,000 less £31,785). As the £20,000 remaining excess is within this limit, then the full £20,000 would be taxable at 40%. The tax due would be £8,000. Tom’s total annual allowance tax charge is therefore £21,500 (£13,500 + £8,000).

In most cases, it is expected that an annual allowance charge will be paid from an individual’s income. They can do this through their self-assessment tax return. However, to assist those who face large annual allowance charges, members can direct that the charge be met from their registered pension scheme assets provided certain conditions are met. This is referred to as ‘scheme pays’. Our ‘Scheme pays’ FQ contains more information on when this option can be used. 

Pensions Technical Services