For many years, pension rules have been extremely complex, with successive governments adding new rules and regimes, rather than improving existing ones. The latest rule changes greatly simplify contribution limits, although the underlying details remain very complex.
Contributions are now limited to £50,000 per annum, the Annual Allowance, above which no tax relief will be available. This limit is ample for most people and is a welcome change from the previous rules, but many higher earning individuals now need to take great care when planning their contributions. In particular, members of occupational pension schemes could find themselves becoming subject to additional tax liabilities without realizing that their contributions are excessive.
Contributions made by individuals are also limited to 100% of relevant earnings. For example, someone with total income of £50,000, of which £10,000 is unearned (e.g. rent or interest) would only obtain tax relief on contributions up to £40,000.
Employers’ contributions are not subject to specific limits although, to obtain a business tax deduction, the contribution must be “wholly and exclusively” for the purposes of the business.
It is possible that “pension years” differ from tax years, subject to when schemes began. These “pension input periods” provide opportunities for contributions to be overlapped, potentially increasing the tax relief available in a single tax year. This requires careful planning with regard to timing of payments and consideration of other income sources.
In addition to the Annual Allowance, it is possible to carry forward “unused” contribution allowances for up to three years. This provides further opportunities for higher earners and wealthy individuals to maximize tax relief in the short term, possibly creating tax savings of up to 50%. However, only those with existing pension schemes may take advantage of this.
In addition to the Annual Allowance, there is a Lifetime Allowance, currently £1.8 million, above which a special tax charge of at least 55% will be suffered on retirement or death. This is to reduce to £1,500,000 from 6 April 2012 and seems unlikely to be increased in line with inflation on a regular basis. This means that, although higher contributions may be made, greater care needs to be taken to ensure that future growth does not cause an excessive fund value further down the line.
In summary, these new contribution limits are welcome, as they simplify planning for most people and reasonably cater for the contribution expectations of most individuals and business owners, while preventing the “ultra-wealthy” from benefiting unfairly from the tax relief available.
Hazlewoods Financial Planning LLP is able to provide specialist advice and guidance for navigating these new rules, especially as many individuals have pension funds created under previous rules and regimes. For further information, please contact our Financial Planning team on 01242 680000.