We all know how important it is to save for retirement. The more you put away, the bigger your potential pension pot! And the government helps by adding income tax relief.
There is a limit, though, on how much you can pay into your pension plan and obtain income tax relief.
If you have zero earnings, it is still possible to pay a contribution of £3,600 into a pension plan and obtain basic rate income tax relief of 20%, so a net cost of £2,880.
If you have earned income, you can pay 100% of your gross pay as a pension contribution subject to a maximum of £40,000. This limit is known as the Annual Allowance.
But if you are a high earner, you may be subject to a further limit on how much you can pay, and that may not be as much as £40,000. This limit for higher earners is known as the Tapered Annual Allowance.
For the current income tax year 2019/20, the Tapered Annual Allowance reduces down to a bottom-line figure of £10,000.
For the next tax year, 2020/21, the Tapered Annual Allowance reduces further to a bottom-line figure of £4,000.
Some pension plan investors may well be able to pay higher pension contributions in the next tax year than they were able to pay in this tax year.
For example, if you had an adjusted income (includes salary, bonus payments, pension contributions and stock options) of £150,000 or less, your Tapered Annual Allowance would be £40,000 in each of the 2019/20 and 2020/201 tax years.
However, if your adjusted income was £210,000 or £240,000, your Tapered Annual Allowance would be £10,000 in 2019/20 and £40,000 in 2020/21.
With an adjusted income of £260,000, your £10,000 Tapered Annual Allowance in 2019/20 becomes £30,000 in 2020/21.
It’s £20,000 in 2020/21 with an adjusted income of £280,000 and falls to £10,000 with an adjusted income of £300,000.
At an adjusted income of £312,000, your Tapered Annual Allowance of £10,000 in 2019/20 falls to £4,000 in 2020/21.
There is also scope for some pension plan investors to pay contributions missed in previous tax years known as “carry forward” You should seek advice prior to paying pension contributions to ensure that you qualify for the income tax relief that you are seeking.
What about you?
If you are subject to the Tapered Annual Allowance in this tax year, you may not be subject to it in the new tax year (see the table above).
You may have decided to stop paying pension contributions this tax year to avoid the tax charge for the overpayment. But you might want to recommence your contributions after 5th April.
You may have “opted-out” of your employer’s pension plan because of the Tapered Annual Allowance rules, so you might want to speak with your employer to see if it is possible to re-join the scheme.