The wider issues around pension provision are well known, but I have long taken the view that while making pension contributions can mitigate tax liabilities, the restrictions on the level of funding and the age at which benefits may be taken mean that it is not for everyone, or suitable in all circumstances. In fact, it can be quite an expensive way to save tax.
Key pension reforms
The increases to the Annual Allowance (AA) from £40,000 to £60,000, the minimum allowance after taper from £4,000 to £10,000 and the removal of the Lifetime Allowance (LTA) charge announced in this month’s Budget and coming into effect from 2023/24 are welcome. The stated aim of removing a “tax trap” for senior employees who have already accumulated a sizeable occupational pension fund and wish to continue working is just one aspect, and there is now the potential for anyone who has the funds available to further boost their pension savings.
In recent years there has been a further consideration. For anyone fortunate (or unfortunate?) enough to have a gross income of more than £100,000 for a given year, their tax-free Personal Allowance (of £12,570 for 2022/23) is reduced by £1 for every £2 of income over £100,000. Once income reaches £125,140, entitlement to the Personal Allowance is lost completely.
The loss of this allowance creates an effective tax rate of 60% on the first £25,140 of annual income over £100,000. As I said above though, that is nothing new.
The coming tax year, 2023/24, brings a further tweak in that the threshold of income at which the 45% additional tax rate is applied has been reduced from £150,000 to £125,140. The government announced this change before the Budget. So, instead of there being a cushion of income taxable at 40% after the application of the highest rate of personal income tax in the UK since the 1980s, higher earners are now caught straight away at the top rate of general taxation.
Making pension contributions
Making a contribution to a personal pension scheme immediately raises the threshold of income at which the higher rates of tax apply, so a tax saving at 60% or 45% means this may be a planning measure well worth considering.
For employees contributing to an occupational pension scheme, employers may sometimes offer “salary sacrifice” arrangements for additional pension contributions and these have the same effect, in that they reduce the overall level of income chargeable to tax.
There are practicalities; individuals must have a good idea what level of income they are likely to have for a given tax year and the pension contributions need to be made during that year. There is no facility to “carry-back” relief for a contribution to the previous tax year.
How we help
We can advise on all tax planning aspects relating to pension contributions and we will be delighted to do so, but it is important to note that pension investments themselves fall within the ambit of regulated financial advice. You will therefore need to consult a suitably-qualified financial adviser for any investment decisions on pension savings.