Advisers are encouraged to discuss with clients the benefits of paying pension contributions to minimise a client’s tax bill.
Using a pension wrapper to save tax, particularly at the end of the tax year, is an important part of any advisers remit when completing a client review.
Opportunities to save tax by making pension contributions have been around since the year dot but has it slipped as a priority?
Pension freedoms have invigorated the retirement planning market and eligible clients seem far more prepared to save for retirement than they may have done prior to the introduction of pension freedoms.
1) Making use of carry forward
Maximising tax relief for all ranges of tax payers has to be a worthwhile exercise but for higher and additional rate tax payers using all or as much of the available head room available makes good sense when it comes to tax planning.
Using carry forward is an important facility and particularly this year because from 6 April 2017 we lose the 2013/14 £50,000 annual allowance.
So a quick reminder of the basic rules – for clients keen to reduce their tax bill by maximising pension contributions they can use the facility of carry forward providing:
- They have sufficient relevant UK earnings in the tax year to match the total contribution paid, assuming the contribution was personal rather than from an employer.
- The individual was a member of a UK registered pension scheme during the tax years used to carry forward any unused allowance.
- They use all of the available annual allowance for the tax year in which the single contribution is made. (This is subject to the tapered annual allowance, covered later on in this article.
- They are not subject to the money purchase annual allowance. If the contribution is to a defined benefit arrangement this may still be possible.
- Individuals must go back to the earliest of the previous three tax years and use all of the unused allowance first.
- An individual’s annual allowance will be reduced if they are a high earner (with adjusted income over £150,000) although carry forward is still available.
- They are not subject to fixed or enhanced protection.
A get out of jail card for high earners
Clients whose adjusted income (which include earnings, interest payments and pension contributions, both employer and any personal contributions as part of a net pay arrangement) could potentially pay contributions up to £160,000.
That is £40,000 for the current tax year, £40,000 for 2015/16, £40,000 for 2014/15 and £50,000 for 2013/14, assuming no pension contributions were made in any of these tax years. Have you spotted an arithmetical error? Should the figure be £170,000?
Yes and no. The total would be £170,000, but as mentioned earlier, personally contributing this amount, would mean the individual is a high earner as far as the tapered annual allowance rules are concerned and £20,000 over the £150,000 limit.
This would result in the available allowance for the current tax year reduced by £10,000 (annual allowance reduced by £1 for every £2 over the limit).
Up to £30,000 of allowance can be lost as a result of the new tapered annual allowance rules. So for high earners restricted by this rule, using the carry forward facility could be very useful. If the contributions were to be made by the client’s employer rather than personally then the link to relevant earnings can be ignored.
Example
Barry is self-employed and has relevant earnings of £200,000 but once his adjusted income is calculated and investment income included it totals £230,000.
As a result, his current year’s annual allowance is reduced by £10,000. His earnings during previous tax years were much lower so his past contributions reflected this position.
Barry wants to maximise contributions to reduce his tax bill.
| Tax year | Annual Allowance (AA) | Pension Input | Unused allowance available | Carry forward of unused allowance |
| 2013/14 | £50,000 | £3,000 (regular) | £47,000 | £47,000 |
| 2014/15 | £40,000 | £3,000 (regular) | £37,000 | £84,000 |
| 2015/16 Pre-alignment period (up to 8 July)* | £80,000 | Regular premium £1500 | (£78,500) but only a maximum of £40,000 can be carried over from the pre- alignment period | |
| 2015/16 Post-alignment (after 8 July) | £1,500 | £38,500 | £122,500 | |
| 2016/17 | £10,000** | £3,000 (regular) | £7,000 | £129,500 |
1) Tax year 2015/16 was split into two periods – pre- and post-alignment periods either side of the 8 July. The AA for the pre-alignment period was £80,000 and nil for the post. However, the lower of £40,000 or remaining unused allowance from the pre-alignment period could be carried forward to the post alignment period. The above table assumes £40,000 was carried forward. In terms of carry forward a maximum of £40,000 of unused allowance can be used for tax year 2015/16.
