Annual Allowance

Most people will not be affected by the Annual Allowance tax charge because the value of their pension saving will not increase in a year by more than £60,000: or, if it does they are likely to have unused allowance from previous years that can be carried forward.

You are most likely to be affected if:

• you have a lot of scheme membership and you receive a significant pay increase, and/or;
• you pay a high level of additional contributions, and/or;
• you are a higher earner, and/or;
• you transfer pension rights into the LGPS from a previous public sector pension scheme under the preferential club transfer rules and your salary (full time equivalent) upon joining the LGPS is somewhat higher than the salary you earned when you left the previous scheme, and/or;
• you combine a previous LGPS pension benefit that was built up in the final salary section of the LGPS with your current pension account and your salary (full time equivalent) has increased significantly since leaving and re-joining the scheme, and/or;
• you have accessed flexible benefits on or after 6 April 2015.

Your pension fund will inform you if your LGPS pension savings exceed the Annual Allowance limit in any year by no later than 6 October of the following year.

The increase in the value of your pension savings in the LGPS in a year is calculated by working out the value of your benefits immediately before the start of the ‘Pension Input Period’, increasing the value by inflation and then comparing it with the value of your benefits at the end of the ‘Pension Input Period’.

The ‘Pension Input Period’ (PIP) is the period over which your pension growth is measured.

From 6 April 2016, PIPs for all pension schemes will be aligned with the tax year – 6 April to 5 April. Prior to the 2016/17 the PIP for the LGPS was 1 April to 31 March, except for the year 2015/16 when special transitional rules apply.

In the LGPS the value of your pension benefits is calculated by multiplying the amount of your annual pension by 16 and adding any lump sum you are automatically entitled to from the pension scheme plus any Additional Voluntart Contributions (AVCs) you or your employer has paid during the year.

If the difference in the value of pension benefits at the end of the PIP less the value of your pension benefits immediately before the start of PIP (adjusted for inflation), is more than the Annual Allowance limit then you may be liable to pay a tax charge.

It is important to note that the assessment for the Annual Allowance covers any pension benefits you may have where you have been an active member during the year, not just benefits in the LGPS. For example, if the increase in the value of your LGPS benefits was calculated as £30,000 in 2014/15 when the Annual Allowance limit was £40,000, but you also had an increase in the value of other pension benefits of £15,000 in the same year, that would mean you had a total increase in pension benefits of £45,000. If you did not have any carry forward (see below for more information), you would be liable for a tax charge for the amount you exceeded the Annual Allowance limit by, even though at face value you did not breach your Annual Allowance limit in either scheme.

You would only be subject to an Annual Allowance tax charge if the value of your total pension savings for a year increase by more than the Annual Allowance limit for that year.

However, a three year carry forward rule allows you to carry forward unused Annual Allowance from the previous three years. This means that even if the value of your pension savings increase by more than the Annual Allowance limit in a year you may not be liable to the Annual Allowance tax charge.

For example, if the value of your pension savings in 2014/15 increased by £50,000 (i.e. by £10,000 more than the Annual Allowance limit), but in the three previous years had increased by £25,000, £28,000 and £30,000, then the amount by which each of these previous years fell short of the Annual Allowance limit for those three years would more than offset the £10,000 excess pension saving in the current year. There would be no Annual Allowance tax charge to pay in this case.

To carry forward unused Annual Allowance from an earlier year you must have been a member of a tax registered pension scheme in that year.

Tapered Annual Allowance for higher earners

For higher earners, from 6th April 2023 the Annual Allowance is tapered for members who have a ‘Threshold Income’ in excess of £200,000 and ‘Adjusted income’ in excess of £260,000.

Threshold Income is broadly your taxable income after the deduction of your pension contributions (including AVCs deducted directly by payroll from your salary).

Adjusted Income is broadly your threshold income plus pensions savings built up over the tax year. It includes all sources of income that are taxable, e.g. income from property, savings, dividends, state pension etc. Note that you are not allowed to deduct from taxable income any amount of employment income given up for the pension provision as a result of any salary sacrifice made on or after 9^th July 2015.

How will the taper work?

The taper will reduce the AA by £1 for £2 of adjusted income received over £260,000, until a minimum AA of £10,000 is reached. For example, where adjusted income is £310,000, i.e. £50,000 over the adjusted income limit, then the £60,000 AA is reduced by £25,000 to £35,000.

If you have any benefits in a money purchase (defined contribution) pension arrangement which you have flexibly accessed on or after 6 April 2017 then the Money Purchase Annual Allowance (MPAA) rules may apply. However, the MPAA will only apply if your total contributions to a money purchase arrangement in a Pension Input Period exceed £10,000, having increased from the previous limit of £4,000.

Generally, if your contributions to a money purchase scheme exceed £10,000 your defined benefit pension (LGPS) savings will be tested against a reduced Annual Allowance and you will pay a tax charge in respect of your money purchase saving in excess of £10,000.

If you access flexible benefits your flexible access scheme will provide you with a flexible access statement; you should provide your LGPS pension fund with a copy of this statement.

Flexible access means taking a cash amount over the tax-free lump sum from a flexi access drawdown account, taking an uncrystallised funds pension lump sum (UFPLS), purchasing a flexible annuity, taking a scheme pension from a defined contribution scheme with fewer than 12 pensioner members or taking a stand-alone lump sum if you have primary but not enhanced protection.

If you exceed the Annual Allowance limit in any year you are responsible for reporting this to HM Revenue and Customs on your self-assessment tax return.

Your pension fund is obliged to notify you if your LGPS benefits (plus the amount of any Additional Voluntary Contributions (AVCs) you may have paid) exceed the Annual Allowance limit in a year by no later than 6 October of the following tax year.

If you have an Annual Allowance tax charge that is more than £2,000 and your pension savings in the LGPS alone have increased in the year by more than the Annual Allowance limit you may be able to opt for the LGPS to pay some or all of the tax charge on your behalf. The tax charge would then be recovered from your pension benefits.

If you want the LGPS to pay some or all of an Annual Allowance tax charge on your behalf, you must notify your pension fund no later than 31 July in the year following the end of the year to which the Annual Allowance charge relates. However, the Leicestershire Pension Section suggests you notify them by the 30 November in the year following the breach, to avoid additional tax penalties that may be applied. However, if you are retiring (and draw all of your benefits from the LGPS) and you want the LGPS to pay some or all of the tax charge on your behalf from your benefits, you must tell your pension fund before you become entitled to those benefits.