How has the tapered annual allowance changed?
At the 2020 Budget, the Government announced increases to the threshold income and adjusted income limits that you use to work out your tapered annual allowance.
The adjusted income limit rose to £240,000 (increased from £150,000) and the threshold income limit rose to £200,000 (increased from £110,000).
The Chancellor also lowered the minimum reduced annual allowance that you can have under the tapering rules from £10,000 to £4,000. This operates on a sliding scale once your adjusted income reaches £300,000. If you have an adjusted income of £312,000 or more, your annual allowance is £4,000.
What is threshold income?
Threshold income is all of your earnings (not just your salary) and includes chargeable gains on investment bonds – the whole gain, not just the ‘top slice’ – which are subject to UK Income Tax.
However it is net of all pension contributions that you pay personally into UK registered pension schemes.
Foreign earnings do not count towards threshold income as they are not taxed in the UK.
What is adjusted income?
Adjusted income is all of your earnings which are subject to UK Income Tax, including all pension contributions paid by you personally and by your employer.
The difference between threshold income and adjusted income is that the former excludes pension contributions but the latter includes all pension contributions.
What is the pension annual allowance?
The pension annual allowance is the maximum you can save in your pension schemes each year with the benefit of tax relief.
Currently, the annual allowance is £40,000, but if you have a high income your annual allowance may be lower than £40,000.
This tapering of the annual allowance is applied depending on your level of income within the tax year and applies to all UK registered pension savings that you make or that are made on your behalf.
Does the tapered annual allowance apply to me?
To see if the tapered annual allowance applies, you will need to work out your:
- net income* in a tax year
- pension savings in a tax year
- threshold income in a tax year
- adjusted income in a tax year
*net income is not the same as ‘income after tax’. It is all taxable income minus various deductions, the most important of which is the deduction of members' contributions paid to UK registered pension schemes. When calculating ‘net income’, you deduct personal contributions paid to occupational pension schemes under the ‘net pay’ arrangement. You also need to deduct any pension contributions paid by you personally via the ‘relief at source method’, i.e. pension contributions paid net and grossed up by basic rate tax within the pension scheme.
You will have a reduced (‘tapered’) annual allowance if:
- your threshold income is over £200,000 (up until 5 April 2020 this was £110,000) and
- your adjusted income is over £240,000 (up until 5 April 2020 this was £150,000)
You will not be subject to the tapered annual allowance if your threshold income for that year is £200,000 or less, no matter what your adjusted income is.
What effect does the tapered annual allowance have on my savings?
If you are subject to the tapered annual allowance, for every £2 your adjusted income goes over £240,000, your annual allowance for that year reduces by £1.
The minimum that this can reduce to is a tapered annual allowance of £4,000.
For the 2022/23 tax year, an individual with an adjusted income of £300,000 will exceed the adjusted income limit by £60,000. The individual’s annual allowance would be reduced by half of this – so by £30,000 – leaving them with a tapered annual allowance of £10,000, which is the standard annual allowance of £40,000 less the £30,000 reduction under the tapering rules.
For the 2022/23 tax year, another individual earns £330,000. Their income exceeds the adjusted income limit by £90,000. Their annual allowance should be reduced by £45,000, which is the standard annual allowance of £40,000 less the £45,000 reduction under the tapering rules.
However, the minimum that the annual allowance can reduce to under the tapered annual allowance rules is £4,000, so this individual will have a tapered annual allowance of £4,000.
Having said this, you must not forget that you can also carry forward any unused annual allowance from the previous three tax years and use this, provided you were a member of a registered pension scheme during the year from which you wish to carry forward. The total contribution, if it is paid by you personally, should be no more than 100% of your earnings.
Your available annual allowance is your reduced (or tapered) annual allowance plus any unused allowance from the previous three tax years.
Please note that examples of how tax or tax relief may apply are based on our understanding of current tax legislation. Whether any tax will be payable, at what level it is charged and whether you qualify for tax relief will depend upon individual circumstances and may be subject to change in the future.
What should I do if I have made pension savings over my available annual allowance?
If your pension savings made in the tax year are more than your available annual allowance and any carry forward entitlement you may have, you should include the excess amount on your Self-Assessment return.
This amount is added to your taxable income net of any pension contributions paid by you personally in the tax year, and you will pay Income Tax on it at the tax rate that applies to you.
Speak to Evelyn Partners
If you have concerns about your pension annual allowances or would like to speak to someone about your pensions or other investments, we’re here to help you. You can book an appointment online or call us on 020 7189 2400.
This article was previously published on Tilney prior to the launch of Evelyn Partners.
The value of investments, and the income from them, may go down as well as up and investors may not get back the amount originally invested.
Prevailing tax rates and reliefs depend on individual circumstances and are subject to change