29th March 2016
High earners with taxable income over £150,000 face paying additional tax of £13,500 now that pension tax relief rules have changed.
Hargreaves Lansdown senior pension analyst Nathan Long says: “High earners will now need either a crystal ball or the benefit of hindsight to navigate the new annual allowances rules. Few people know their total year’s income from work, savings and investments in advance. However, those with total annual income above or around £150,000 need to be alive to these changes, or else risk a nasty tax surprise.
He says that higher earners should prioritise tallying up their expected income for the year, work out if they could be caught by the new rules and plan accordingly. He warns that even simply remaining a member of a company pension scheme could increase tax bills – so employees in particular should act now by discussing the options with their employer.
The firm has suggested seven steps higher earners should take to help them minimise any unexpected bill.
How does the Tapered Annual Allowance work?
The taper is a reduction to the standard £40,000 annual pension contribution allowance, based on an individual’s total income for the tax year. The taper affects incomes between £150,000 and £210,000. The definitions of income includes variable payments such as dividends, bank interest, rental income, bonuses and unapproved share schemes. As a consequence, it will be absolutely impossible for the employer to know an employee’s total income in advance of the end of the tax year; it will also be very challenging for many individuals to know their total income.
This in turn means they won’t know for sure what their annual allowance for the year is until after the end of the year (see details of the taper below).
Threshold Income, Adjusted Income and the Taper
Anyone earning over £110,000 has to check to determine whether the Taper could apply to them. For the purpose of the Threshold test, income includes non-earned income such as dividends and property income; it also includes any salary sacrifice arrangement entered into on or after 9 July 2015 but any personal contributions to a pension can be deducted, as well as a variety of trading reliefs, property loss reliefs and payments to trade unions.
Adjusted Income is broadly the same income calculation as for the Threshold test however you cannot deduct personal contributions to pensions and you have to add in any employer pension contributions, including any salary sacrifice arrangement.
£1 of annual allowance is withdrawn for every £2 of income above £150,000. Once adjusted income exceeds £210,000, the Annual Allowance bottoms out at £10,000.
In the worst case, someone could lose £30,000 of Annual Allowance, resulting in them having to pay a tax bill of £13,500 (45% tax on an excess contribution of £30,000).