The tapered annual allowance – what high earners need to know

The tapered annual allowance is an issue that’s been hitting the news headlines again recently following the British Medical Association’s warning that NHS doctors could start reducing their working hours and refusing overtime due to pension tax concerns. First introduced in 2016, the government has called this additional tax on high earners ‘necessary to deliver a fair system and protect the public finances.’

As with all tax related issues, it’s good to know where you stand, what your options are and plan ahead. To find out more about the issue, I spoke to Carl Drummond, Senior Wealth Planner at Sanlam and one of our resident experts on this issue.

The tapered annual allowance came into being in April 2016. Why is it still a talking point?

Since its introduction in 2016, the tapered annual allowance has affected more and more high income individuals. Crucially 2019/20 is the first tax year when higher amounts of unused annual allowance from pre-taper years will not be available to carry forward. So it’s now likely to bite more people, much harder.  

Why are people discussing it particularly with regards to the NHS?

Largely because of a Royal London report from former Pensions Minister, Steve Webb that notes many GPs are working fewer hours or retiring early so as not to affect their lifetime allowance. Webb said, ‘it is utterly absurd that doctors are having to consider their pension tax position before deciding whether or not to take on an additional shift or cover for an absent colleague. The NHS is structured around senior clinicians taking on additional roles and responsibilities and this whole culture is being undermined by a bewildering system of pension tax relief.’ The counter argument is that the NHS Pension scheme is one of the most generous in the country and that the tapered annual allowance affects all high earning individuals across the public and private sector. The Chancellor says, ‘the tapered annual allowance is focused on the highest earning pension savers to ensure they do not receive disproportionate tax relief.’

So, how does the tapered annual allowance work?

People are free to pay up to ￡40,000 into their pension pots each year and receive tax relief on it - this is the annual allowance granted by the government. However, for higher earners this allowance is tapered and can be slashed to ￡10,000 if you’re defined as a high-income individual and fall in the ￡150,000 ‘adjusted income’ threshold. If your adjusted income exceeds ￡150,000, your annual allowance is reduced by ￡1 for every ￡2 of income above ￡150,000, subject to a maximum reduction of ￡30,000. Therefore any individual with an adjusted income of ￡210,000 or more will have a tapered annual allowance of ￡10,000. It’s worth noting that if your ‘threshold income’ is ￡110,000 or less, you won’t be subject to the annual tapered allowance, regardless of your adjusted income.

What’s the difference between ‘adjusted income’ and ‘threshold income’?

‘Threshold Income’ is defined as your net taxable income for the year which as well as salary will include bonus, redundancy payments, income from property, dividend income etc. ‘Adjusted Income’ is all income <plus> any pension contributions paid in the relevant period.

Are there any ways individuals can regain the full annual allowance and not be affected by the taper?

One of the ways to regain the full annual allowance for individuals who would otherwise be affected by the taper is to reduce your threshold income below ￡110,000 by making a member pension contribution 

Do you have any tips for preserving your pension allowance?

If your salary is around the ￡100,000 mark you are approaching the ‘taper zone’ and you should have a chat with your employer about salary, any bonuses and the pension contributions they make – just to check what side of the threshold you fall under. It’s always good to plan ahead and of course to talk to a financial adviser.

 Is there anything else to be aware of?

Yes, finally you should remember that it is only possible to refund pension contributions in limited circumstances, for example, where the amount paid by an individual or third party exceeds relevant UK earnings. It is not possible to refund a pension contribution purely because it results in the annual allowance being exceeded. 

The HMRC guidance provides help on how to calculate the income thresholds.

If you don’t already have a financial planner you can find one here. Please note the value of investments and any income from them can fall and you may get back less than you invested. For information only and not to be considered financial advice. If you want help with your investment choices, we suggest you take financial advice, such as from a Sanlam financial adviser.

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