Pensions & Tax
Pensions are a tax-efficient form of saving. You receive tax relief on contributions that you pay into your pension calculated at the highest rate of income tax that you pay, provided that the total gross pension contributions paid into your pension scheme, by you and/or your employer does not exceed 100% of earnings or £40,000 whichever is lower.
Currently the UK pension tax relief system can be described at "Exempt-Exempt-Taxed (EET). Under the EET system member and employer contributions are paid tax free, investment growth from pension contributions is tax free (subject to the Lifetime Allowance - see below) however pension income is taxed as earned income under the PAYE system.
If you’re a UK taxpayer, the standard rule is that you’ll get tax relief on pension contributions of up to 100% of your earnings or a £40,000 Annual Allowance (AA), whichever is lower. The AA has been set at £40,000 since April 2014. From April 2016 a new Tapered Annual Allowance was introduced which reduced tax relief for those earning between £150,000* and £210,000. For every £2 of adjusted income over £150,000, an individual’s AA is reduced by £1, down to a minimum of £10,000 where the relief won’t decline any further. The reduction in tax relief is intended to fund changes to inheritance tax.
* includes taxable earnings and all pension contributions, but does not include charitable contributions.
The Lifetime Allowance (LTA) is a limit on the amount of pension benefits that can be taken from your pension scheme(s) without triggering an extra tax charge. For the 2015/16 tax year the LTA is set at £1.25m. From April 2016 the LTA was reduced to £1m. These reductions in the LTA reflect recent trends, for example, in 2011/12 the LTA limit was £1.8m.
When the Government started to reduce the LTA a protection regime was introduced to ensure that individuals with pension savings that already exceeded a new, lower LTA would not be faced with paying a tax charge. However, in return, individuals who were granted protection had to cease accruing further pension savings.
- Fixed Protection 2012 - Introduced when the LTA was reduced from £1.8m to £1.5m in order to protect savers with pension savings in excess of £1.5m
- Fixed Protection 2014 - Introduced when the LTA was reduced from £1.5m to £1.25m in order to protect savers with pension savings in excess of £1.25m
- Individual Protection 2014 - Similar to Fixed Protection 2014 but also allows further pension accrual which is subject to a tax charge