The government has announced in the Budget that it will remove the lifetime allowance charge before abolishing it altogether in a future finance bill.
It also announced that it is increasing the pensions annual allowance limit to £60,000 and restoring the money purchase annual allowance back to £10,000 from April 6 2023.
The forthcoming abolition of the LTA will likely have an impact on retirement planning and will simplify a lot of the issues around LTA protection.
There is likely to be a need for carry forward as individuals look to play catch up if they have not made pension contributions over the past three years.
What is carry forward?
The AA is the annual limit for the amount of contributions paid to, or the value of benefits accrued in, a pension scheme without a tax charge applying to the member.
How pension savings are measured against the AA depends on the type of pension scheme:
- For defined contribution pensions, it is the total contributions from all sources paid during the tax year.
- For defined benefit pensions, it is the capitalised value of the increase in the accrued benefits over the tax year.
Since April 6 2016 the standard AA has been limited to £40,000.
Carry forward allows for contributions or accruals that exceed the standard AA and avoid the additional tax charge, by carrying forward unused allowances from previous years.
There are two situations where an individual can have a reduced AA below the standard £40,000:
- Individuals who have already accessed their DC funds flexibly will be subject to the MPAA.
- Individuals with total income and employer pension contributions that exceed £240,000 (from 2020-21) or £150,000 (for tax years 2016-17 to 2019-20) will have a reduced AA, potentially as low as £4,000 (from 2020-21) or £10,000 (2016-17 to 2019-20). This is called tapered annual allowance (TAA).
What happens if you exceed the AA?
Exceeding the available AA, including any carried forward, will incur the AA tax charge.
This is levied on the pension scheme member, regardless of who actually paid the contributions that led to the excess amount.
There are three exemptions from testing against the AA (and the MPAA). These are in the event of:
- death;
- serious ill-health (life expectancy of under a year); or
- severe ill-health (unlikely to ever be able to work again, in any capacity).
To determine what rate (or rates) of charge applies to the excess, the excess amount over the available AA is added on top of the individual's total taxable income for the tax year to see which tax band (or bands) it falls into.
The charge for UK taxpayers outside of Scotland is:
- 45 per cent on any of the excess amount that falls into the additional 45 per cent income tax band;
- 40 per cent on any of the excess amount that falls into the higher 40 per cent income tax band; and
- 20 per cent on any of the excess amount that falls into the basic 20 per cent income tax band.
Who can pay the charge? The AA tax charge is normally collected through self-assessment. It is the members' responsibility to notify HMRC. The charge is payable even if the member is not a UK resident.
If an individual exceeds the AA and an AA tax charge is due, they can ask their pension scheme to pay the charge on their behalf with a corresponding reduction in benefits. This is known as ‘scheme pays’.
We are still waiting to see if there are any proposed changes in the Budget detail, but as things stand, the pension scheme must facilitate the AA tax charge if the following two conditions apply within certain timescales:
- The AA tax charge for the tax year across all pension schemes is greater than £2,000.
- The pension input amount to the scheme the charge is to be taken from is greater than £40,000 for the same tax year.
Carry forward of unused allowances
If the AA in a particular tax year is not fully used, it is not necessarily lost. That unused allowance can be carried forward to a later tax year.
