Pensions: tax relief for pension contributions to be restricted
The measure
Higher rate income tax relief is being restricted for contributions by or
on behalf of individuals to UK registered pension schemes and qualifying
overseas pension schemes. Higher rate relief will be tapered away for those
with taxable incomes (as adjusted) of between £150,000 and £180,000 from 6
April 2011 so that for those with incomes above £180,000 contributions will
only benefit from basic rate tax relief. The exact mechanism for applying
these rules has not yet been decided.
Provisions applying from 22 April 2009 will prevent the forestalling of the
new rules. For the tax years 2009/10 and 2010/11 individuals with incomes of
at least £150,000 in the year, or any of the preceding two tax years could
be affected. Steps taken to reduce income below £150,000, for example by
entering into salary sacrifice arrangements set up after 22 April 2009, will
be negated by adding back the amount sacrificed.
There will be a special annual allowance of £20,000. This will be applied to
any pension savings that exceed the individual's normal established pattern
of contributions. Contributions in excess of this level will be taxed at 20%
for 2009/10 and will be collected via self-assessment. From 2010/11, when
the 50% top income tax rate takes effect, indications are that this special
allowance charge may increase to 30%. Enhanced protection does not prevent
this charge arising.
The special annual allowance is eaten up first by any protected pension
savings (ie normal ongoing regular pension savings) and any one-off amounts
paid between 6 April 2009 and 22 April 2009.
The special annual allowance charge applies in addition to the normal annual
allowance charge that was introduced from 6 April 2006 (£245,000 for
2009/10). However where both the normal annual allowance and the special
annual allowance are both exceeded the amount subject to the special
allowance charge is reduced by the normal annual allowance excess.
It may be possible to claim a refund of contributions paid on or after 6
April 2009 to prevent the special annual allowance from applying. However
any refund will be subject to a 40% tax charge, payable by the scheme
administrator.
Who will be affected?
From 6 April 2009: individuals with
adjusted income of at least £150,000 in either the current or any of the
previous two tax years.
In each case the new rules will only apply to those who change their normal
pattern of pension saving and whose total pension savings exceed £20,000 per
year.
For money purchase arrangements a regular pattern of contributions include
those made on a normal basis at least quarterly and for defined benefit
arrangements they include any increases in accordance with the scheme rules
in effect on 22 April 2009. One-off contributions made, for example, once a
year, are not regarded as normal ongoing regular contributions and are
therefore likely to be subject to the special annual allowance charge.
The changes have no impact on corporation relief for employer pension
contributions.
When?
The main change comes into effect from 6 April 2011, but rules apply from 22 April 2009 to prevent individuals taking advantage of the deferral.
This represents yet another nail in the coffin of pensions tax
simplification. A mere three years after the introduction of the new regime,
employers, individuals and the pensions industry have another set of
complexities to grapple with. It is inevitable that the administrative costs of
running a pension scheme are going to remain high for a further period of time
before these new rules bed down.
Whilst the restriction of higher rate relief is billed as coming into effect on
6 April 2011, the forestalling rules have immediate effect.
The ability to save toward pensions when individuals can afford to do so, rather
than being tied to regular contributions, is potentially severely hampered by
the new proposals, given that only 'normal, regular ongoing pension savings' are
protected from the new special annual allowance. This flexibility has been
important ever since so called 'carry back/carry forward relief' was withdrawn
and potentially adversely affects the self employed and employees that make a
significant part of their pension savings once a year from bonuses, instead of
or in addition to salary.
We urge caution to employees considering 'waiving bonuses into pensions'. Until
now, this has been a highly efficient way of increasing pension savings,
attracting relief from employee and employer National Insurance Contributions
(NIC). However, whilst such a pension contribution made on or after 22 April
2009 might save employee NIC at 1% (1.5% from 2011/12) and employer NIC at 12.8%
(13.3% from 2011/12), if it is caught by the new forestalling rules, it would be
subject to the new tax charge at 20%. Whilst employers will still save NIC,
employees will clearly be significantly worse off overall.
Another potential inequity relates to the way in which the forestalling rules
look back to earnings arising since 2007/08.
Taxpayers in the 40% tax band after 2010/11 will be breathing a sigh of relief
as they will continue to get relief at 40% on their contributions, or 60% if
their Personal Allowance is being phased out.
