Changes to higher rate tax relief on pension contributions
The government has now confirmed the maximum contribution to pensions (the Annual Allowance) will be reduced from £255,000 to £50,000. Contributions in excess of the Annual Allowance can be made but will be subject to a special tax charge of 40%.
Contributions to tax-approved pension arrangements have long benefited from valuable tax breaks. Over the years, a myriad of changes and different rules and regulations have been introduced. To a certain extent, these tax complexities were ended with the introduction of ‘Pensions Simplification’ in 2006.
One of the fundamental changes was that earnings would no longer be capped for pension funding purposes. Instead, annual and lifetime limits were introduced which capped tax relief by setting a maximum annual amount that could be paid in and a maximum total fund that could be accrued. This did away with a range of earnings related calculations that had applied in the previous 9 separate tax regimes.
But, even before this change had time to settle in, changes were again muted with Labour proposing to restrict higher rate relief for all earning £150,000 and over. The theory was simple but the practical headaches of implementation were anything but. There was industry outcry at the costs of enforcement and the consumer confusion caused, not to mention the redundancy of re-introducting an earnings related cap.
‘Anti-forestalling’ rules were introduced immediately to prevent a rush in funding before the rule change. These rules applied to all those earning in excess of £130,000 and restricted higher rate relief to typically £20,000 per annum.
Thankfully, these plans have now been shelved in favour of a reduced Annual Allowance. Yes, it is a massive reduction – £255,000 down to £50,000 – but, it is better than it was expected to be! And, it is far far simpler. Rather than a new and separate limit for higher rate tax payers, the reduction in the overall limit provides an effective cap on higher rate tax relief too.
And, there are some quirks worthy of note. For example, contributions paid to an arrangement from which all benefits are taken in a particular tax year will be ignored. This means that in the funal year in which you retire and take your benefits, there is no tax charge in respect of any contributions paid in excess of the Annual Allowance for that year.
With income tax payable at 20%, 40% and 50% from 2011/12 it will be more important than ever to ensure that all tax relief that can be claimed on pensions contributions is claimed. The reduced Annual Allowance will still provide very valuable higher rate relief.
But it will continue to be necessary to claim back the higher rate relief. A simple section in a Self Assessment tax return will suffice, but according to Standard Life, about 250,000 people miss out on this money because they fail to make the claim.
With changes to higher rate relief from 2011, is now a good time for you to arrange an expert review of your pensions? Cavendish Financial LLP Financial Planning Consultants are on hand to provide all the knowledge and help you need.