The annual allowance governs the maximum amount that can be paid into UK registered pension schemes during the tax year. If exceeded, the member will normally be subject to a tax charge at their marginal tax of rate. It is however possible to carry forward unused annual allowance from the previous three tax years.

The standard annual allowance is currently (2018/19) £40,000. There are however different rules that apply to certain individuals. These include the following:-

  • Tapered Annual Allowance
  • Money Purchase Annual Allowance

Tapered Annual Allowance

If an individual has “adjusted” income in excess of £150,000, their annual allowance will reduce by £1 for every £2 in excess of £150,000, subject to a minimum tapered allowance of £10,000. Adjusted income is the total gross income received by an individual, including salary, bonuses, rental income etc. plus employer pension contributions.

There is a second test to ensure that people making one-off significant pension savings are not impacted by the adjusted income test. The second test is based upon their “threshold” income. The main difference is that pension contributions are not included in the threshold calculation. If an individual’s threshold income does not exceed £110,000, then no taper will apply.

For example, if an individual had an adjusted income figure of £170,000, which includes an employer pension contribution of £65,000, then no taper would apply as the individual would have a threshold income of £105,000.

It is still possible carry forward any unused annual allowance from a year in which the tapered annual allowance applied. The amount available from the year is the balance of the tapered annual allowance, after taking into account any pension contributions made.

Money Purchase Annual Allowance (MPAA)

The MPAA was introduced in April 2016 and limits the amount an individual can contribute into a pension scheme to £4,000 per annum, if they have withdrawn taxable income from their pension via certain forms of pension withdrawal.

There are many different ways to trigger the MPAA. This includes receiving an income via flexi-access drawdown, purchasing an invested-linked or flexible annuity, withdrawing income in excess of the cap on a capped drawdown plan or taking a Uncrystallised Funds Pension Lump Sum (UFPLS).

It is possible to take the tax-free lump sum from your pension without triggering the MPAA. It is also possible to designate the balance of the pension to flexi-access drawdown and avoid the MPAA, as long as no taxable income is withdrawn.

Once the MPAA has been triggered the individual will be unable to utilise any unused carry forward relief from previous tax years. The MPAA only applies to contributions to defined contribution pensions and not defined benefit pension schemes.

As the annual allowance has reduced over recent years, limiting the amount that can be paid into pensions, utilising available carry forward relief has become more important for those looking to accumulate wealth within the tax-efficient pension structure.