Pension Tax Limits – Budget Changes
5th April 2023
In the recent budget (delivered on 15 March 2023), the Chancellor, Jeremy Hunt, announced a number of measures that are intended to increase “growth” and support efforts to (a) encourage inactive individuals to return to work, in particular those aged 50 and above, and (b) remove incentives to reduce hours or leave the labour market altogether.
Of particular interest are the three measures noted below:
Annual Allowance (AA)
The annual allowance (AA) for pension savings purposes will increase from £40,000 to £60,000, as from April 2023.
The way in which the level of pension contributions for AA purposes are measured depends on the type of pension scheme concerned. For defined contribution (money purchase) schemes, the level of pension savings equates simply to the total pension contributions made over the year. For defined benefit schemes, it is the increase in the capital value of the pension fund across the tax year that is relevant for the purposes of determining the total pension savings figure for the year.
Given the increase in the AA, as from April 2023, anyone with pension savings exceeding £60,000 in a tax year faces an AA tax charge, which removes the tax saving represented by the excess contributions made (subject to any unused brought forward AA that is available from the three previous tax years).
A further change is being made in respect of the ‘adjusted income’ level for the purposes of the tapered AA.
Where an individual is a ‘high income individual’, meeting the conditions described below, the AA is tapered down by reducing the available AA for the year by £1 for every £2 that the ‘adjusted income’ threshold is exceeded.
Previously, a ‘high income individual’ is one whose ‘adjusted income’ exceeds £240,000 and ‘threshold income’ exceeds £200,000. Whilst the ‘threshold income’ limit is remaining at £200,000, the adjusted income limit will increase to £260,000 as from April 2023.
Broadly speaking, ‘adjusted income’ is an individual’s net income after all reliefs except those for pension contributions, and it also includes employer pension contributions. An individual’s threshold income for the tax year is their net income after all pension contributions have been deducted, unless salary sacrifice or flexible arrangements are in place.
Finally, the minimum amount to which the AA may be tapered has previously been set at £4,000, however, this is to be increased to £10,000 as from April 2023.
Comment – the government hopes that these measures will support workers ability to build up retirement savings and so improves the financial incentive of work, whilst continuing to balance the cost of pensions tax relief. These changes will allow individuals to contribute more into their pension policies each year and further consideration will be required to ensure that the right tax planning is undertaken with respect to your pension savings.
Money Purchase Annual Allowance (MPAA)
A lower AA is available when the Money Purchase Annual Allowance (MPAA) rules have been triggered. The MPAA rules can be triggered in a number of cases, most notably when an individual has flexibly accessed a defined contribution pension scheme.
The MPAA is to increase to £10,000, up from £4,000, as from April 2023.
Comment – this change will allow individuals who have previously drawn down on a defined contribution pension to contribute more into their pension policies as from April 2023. If the MPAA rules affect your affairs, further consideration will need to be given to this. As an example, it may be that you have “capped” your contributions at £4,000 gross in previous tax years and a greater level of contributions can be made as from April 2023.
Lifetime Allowance (LTA)
The lifetime allowance (LTA) is a limit on the tax-free pension savings an individual may accumulate over a lifetime. Whenever individuals with pension pots greater than the LTA, which amounted to £1,073,100 in the 2022/23 tax year, take pension benefits, they face an extra tax charge (the LTA charge) of 55% if they draw a lump sum or 25% if they draw a pension. The pension paid to the individual is then taxed at the individual’s marginal rate of tax.
The LTA is to be abolished altogether, with effect from 6 April 2024, but the LTA charge is abolished from 6 April 2023. Given this, no one will therefore face an LTA charge from 6 April 2023.
In order to limit the cost to the Exchequer, the maximum tax-free lump sum that individuals may take will remain at £268,275 (25% of the current LTA). Any excess will be taxed at the individual’s marginal rate. Individuals who have previously made elections to ensure that they have protected lump sums at levels greater than the current LTA will still have these protections in place.
Comment – these reforms are designed to ensure that highly skilled individuals such as NHS clinicians are not disincentivised from remaining in the workforce by reducing the risk of incurring significant pension tax charges.
If you would like more information in regard to the above, please contact Simon Boxall, either via e-mail on email@example.com or by calling 01895 236 335