Carry forward, if you can

Over the past few years we have seen successive cuts to pension allowances, including the introduction of the complicated new ‘tapering’ regime for higher earners which has cut annual pensions allowances for some to just £10,000. The long-term future of the current system of pension tax reliefs faces constant speculation, with Chancellor Philip Hammond last year describing them as “eye wateringly expensive” and many also seeing higher rate tax relief on pension contributions as a soft target for a future Labour government.

However, despite the fact that pension contribution limits have been eroded, investors should still take full advantage of the allowances that are available to them.

For example, investors should consider making use of the annual pension allowance that is still available in the 2015/16 tax year before it is lost for good. Those that did not fully utilise this allowance at the time, but are now in a position to bulk up their pension, have the capacity to do so under ‘carry forward’ rules.

Andy James, Head of Retirement Planning at Tilney, looks at the benefits of carrying forward:

“Unlike ISAs which are an annual ‘use it or lose it’ allowance, under the current rules, savers can ‘carry forward’ unused pension allowance from the previous three tax years once they have first fully used the current year allowance. Allowances from the oldest year are used up first and at the end of every tax year, the ‘oldest year’ falls away. Therefore, any allowances not used from the oldest year – now 2015/16 - will be lost for good if they are not carried forward.

“This year it is especially important for some as this is the last year that those who have been affected by the tapered annual allowance are able to carry forward one year’s full allowance. From the 6 April this year, the tapered annual allowance will affect all carry forward years.

“There are a couple of extra things to note when thinking about carrying forward. Firstly, to get tax relief on pension contributions that you make yourself, you need to ensure that the payments made in any tax year do not exceed earnings in that year. An employer is not restricted by an individual’s earnings so they are able to pay in higher sums on occasion.

“The ability to carry forward can be extremely useful for those looking to catch up on pension contributions because they are underfunded or because their financial position has improved and they are now in a position to do so. It is particularly useful for those whose current year pension contributions are now restricted by the tapered allowance because they have a total income over £150,000. For anyone in this position, which can see their current year allowance drop to as low as £10,000 if they are in receipt of £210,000 or more then the opportunity to mop up a £40,000 allowance is one they should give very serious consideration to while they can.

“Carry forward has further benefits beyond retirement planning as maximising a pension can potentially remove funds from your estate for inheritance tax purposes and gives options to pass on wealth to your heirs in a very tax efficient way.

“However there are also potential pitfalls. With the pension lifetime allowance now set at £1.03 million, care needs to be taken to ensure that contributions and growth in your investments won’t take you over this limit, as you will be liable for a tax charge on the excess when benefits are taken.

“In this current environment, when planning for retirement has never been more important, the ability to carry forward your pension allowances provides a great opportunity to reduce your tax bill and save for retirement. As always, make sure you seek advice from your financial planner.”