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The Annual Allowance (AA) is the maximum amount of pension savings an individual can make each tax year with the benefit of tax relief. Pension savings are those made by the individual together with any made on their behalf. A tax charge may apply when the amount paid exceeds the yearly allowance. The standard AA is prescribed by legislation, and remains at £40,000.
Tapered Annual Allowance (TAA) is applied to high earning individuals in a tax year whose individual “Threshold Income” and “Adjusted Income” exceed prescribed levels. “Threshold Income” is broadly determined as an individual’s net income for the year. This will include all taxable income sources such as salary, bonus, dividend income, interest from savings, etc. less certain allowable reliefs. “Adjusted Income” is similar and again is based on an individual’s net income but adds in all employer pension contributions.
Budget 2020 announced that the limits for Threshold Income and Adjusted Income for the 2020/21 tax year and subsequent years were being increased. These are now £200,000 and £240,000 respectively (having previously been £110,000 and £150,000 respectively). It was also announced that the maximum taper is increased to £36,000 from £30,000, so that the minimum TAA is £4,000 (previously £10,000).
If an individual’s Threshold Income does not exceed £200,000, they remain subject to the standard AA (£40,000 2020/21 tax year). If it does, then if the Adjusted Income exceeds £240,000, the AA is reduced by £1 for every £2 of income above £240,000. As the TAA can only be reduced to £4,000, this applies for individuals with an adjusted income of £312,000 or more.
Money Purchase Annual Allowance (MPAA) is triggered when an individual first accesses their benefits under the pension flexibility rules applicable to money purchase pension savings. Such individuals will continue to remain subject to the MPAA in each subsequent tax year. The MPAA is prescribed by legislation and remains at £4,000.
The above allowances, as appropriate, apply to an individual’s total pension savings, whether made by them or on their behalf. If an individual exceeds the allowance in a tax year, they may be subject to a tax charge. This may be mitigated by the use of any unused AA or TAA from the previous 3 tax years. However, unused AA or TAA (or MPAA) may not be used to offset a tax charge arising in respect of money purchase excess input.
Individuals are responsible for determining whether they are subject to a tax charge. Any excess amount is added to their total income. The tax charge levied is then an income tax at the highest marginal rate applicable to the individual. If a tax charge arises, the individual is responsible for reporting the charge to HMRC via their self-assessment tax return and making the tax payment. However, an individual may be able to make a request to their pension scheme to pay tax on their behalf in return for a fair reduction in their benefits. This is a facility known as “Scheme Pays”.
Scheme Pays falls into two categories: Mandatory and Voluntary. Mandatory is where the scheme must pay tax if certain conditions are met.
Voluntary is where the scheme agrees to pay tax if the member so requests but subject to rules set by that scheme.
In either case (and in some cases, AA tax may be covered by both), individuals provide details in their self-assessment tax return with the figure they expect the scheme to pay – the deadline for which is 31 January 2022 in respect of the 2020/2021 tax year (31 January 2021 for the 2019/2020 tax year).
Mandatory Scheme Pays has to be provided where the AA tax charge is more than £2,000, the amount of pensions saving paid during the tax year exceeds the standard AA and the individual elects for it to be paid this way. The scheme’s mandatory liability in this case is only for the tax on any input amount above the standard AA in the scheme – not for any amount between a TAA and the standard AA or any tax related to saving in any other scheme.
Elections under Mandatory Scheme Pays in respect of a tax charge relating to the 2020/2021 tax year have to be made by 31 July 2022 (31 July 2021 for 2019/2020). Although recorded on the self-assessment tax form by 31 January 2022 (31 January 2021 for the 2019/2020 tax year), no penalty is imposed even if the tax is not received by HMRC until after this date. Voluntary Scheme Pays relates to schemes agreeing to pay a tax charge outside of the Mandatory Scheme Pays requirements.
Although tax is paid by the scheme, the liability for the tax charge still remains with the member. Elections under Voluntary Scheme Pays in respect of a tax charge relating to the 2020/2021 tax year should be made so that, if accepted by the scheme, the tax may be paid by 31 January 2022 (31 January 2021 relating to the 2019/2020 tax year) to avoid any penalty imposition.
If you would like any more information on these matters, please contact your Ascot Lloyd consultant/contact directly.
Note: The content of this Pensions Briefing should not be deemed as advice. No section of this Pensions Briefing, reporting or data should be considered a client specific, or a personal client recommendation. Advising on and arranging of occupational pension schemes is not regulated by the FCA. Arranging group personal pensions (GPP) and group stakeholder pensions (GSP) (which are not occupational pension schemes) may be deemed to be a regulated activity by the FCA once members start joining the scheme.