What is the tapered annual allowance?
The pension annual allowance is the annual limit on the level of contributions paid to, or benefits accrued in, a pension scheme before the member has to pay tax. The annual allowance is currently set at £40,000.
For tapered annual allowance to apply, the limits on threshold income and adjusted income must both be exceeded.
For every £2 of adjusted income over £240,000, an individual’s annual allowance is reduced by £1. The maximum reduction is £36,000 and the minimum tapered annual allowance is £4,000.
The tapered annual allowance rules result in the standard annual allowance being available for those with an adjusted income of less than £240,000.
A reducing pension annual allowance applies for those with adjusted incomes between £240,000 and £312,000 and an annual allowance of £4,000 for those with an adjusted income over £312,000.
It is important to be aware that before the 2020-21 tax year, lower limits applied for threshold and adjusted income.
For tax years 2016-17 to 2019-20, the tapered annual allowance reduces an individual’s annual allowance by £1 for every £2 of adjusted income over £150,000, with a maximum reduction of £30,000 for adjusted income over £210,000.
That meant everyone had an annual allowance of at least £10,000.
What about carry forward?
Any individuals subject to tapered annual allowance will still be able to carry forward unused relief from previous tax years.
Carry forward works in the normal way, based on the individual's unused allowance in the years they are carried forward from.
For example, if an individual had a pension and made no contributions in 2020-21, and was not subject to tapered annual allowance, they would have £40,000 of unused allowance that could be carried forward.
If in 2021-22 the individual were to be subject to a tapered annual allowance, their tapered annual allowance was therefore reduced to £20,000, and they had not made any pension contributions, then only £20,000 of unused relief could be carried forward.
When calculating unused relief from earlier years, remember that before 2020-21, tapered annual allowance operated under different limits.
How do you account for the additional tax charge?
Individuals have a responsibility to report any annual allowance tax charge at the end of every tax year.
They are also required to calculate the aggregate pension input amount for all their pension arrangements and compare this total to the annual allowance for that tax year. This will also include any available carry forward where eligible.
The annual allowance charge is a percentage, levied on the pension input amount that exceeds the available annual allowance.
The amount of the charge depends on the member's taxable income, or reduced net income in HM Revenue & Customs' terms, and where they live in the UK.
