Pensions taxation - annual allowance

HM Revenue and Customs impose two controls on the amount of pension savings you can make without having to pay extra tax. These controls are known as the:

  • annual allowance
     
  • lifetime allowance

This is in addition to any income tax you pay on your pension once it is in payment.

This page looks at the annual allowance which is the amount by which the value of your pension benefits may increase in a year without you having to pay a tax charge.

For information on the lifetime allowance please see our page.


 

What is the annual allowance?  Back to top

The annual allowance is the amount by which the value of your pension benefits may increase in any one year without you having to pay a tax charge.

If the value of your pension savings in a year (including pension savings outside of the LGPS) are more than the annual allowance, the excess will be taxed as income.

The government reduced the annual allowance from £255,000 to £50,000 from 6 April 2011 and then reduced it again to £40,000 from 6 April 2014. Further changes to the annual allowance were made for higher earners from 6 April 2016. These changes are covered in more detail below.
 

Pension input periodAnnual allowance
1 April 2011 to 31 March 2012 £50,000
1 April 2012 to 31 March 2013 £50,000
1 April 2013 to 31 March 2014 £50,000
1 April 2014 to 31 March 2015 £40,000
1 April 2015 to 5 April 2016 £80,000 (transitional rules apply)
6 April 2016 to 5 April 2017 onwards £40,000 (unless tapering applies)

 


 

Will I be affected by the annual allowance?  Back to top

Most people will not be affected by the annual allowance tax charge because the value of their pension savings will not increase in a year by more than £40,000, 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 one or more of the statements below applies to you:

  • you have membership of the LGPS that was built up in the final salary section and you receive a significant pay increase. Final salary membership is membership built up before 1 April 2014 in England and Wales, or before 1 April 2015 in Scotland
  • 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 you left the scheme
  • you transfer pension rights into the LGPS from a previous public service pension scheme under the preferential club transfer rules and your salary (full time equivalent) on joining the LGPS is higher than the salary you earned when you left the previous scheme. Public service pension schemes are schemes covering civil servants, any scheme in England, Wales or Scotland covering local government workers, teachers, health service workers, fire and rescue workers or members of the police force, or a new public body pension scheme
  • in the past you transferred in membership from another public service pension scheme which retains a final salary link and you receive a significant pay increase
  • you pay a high level of additional contributions
  • you are a higher earner
  •  you have accessed flexible benefits on or after 6 April 2015

If your LGPS pension savings exceed the standard annual allowance in any year ending 5 April your LGPS administering authority will contact you by 6 October to let you know.

The 50/50 section of the LGPS

If you wish to slow down your pension build up to avoid or reduce an annual allowance tax charge you may wish to consider joining the 50/50 section. In the 50/50 section of the LGPS you pay half your normal contributions and build up half your normal pension but you retain full life and ill health cover.

For further information on the 50/50 section, see the LGPS member website.

Before taking any action to reduce your tax liabilities you should always seek independent financial advice from an FCA registered adviser. For help in choosing an independent financial adviser, see the money advice service website.


 

How is the annual allowance calculated?  Back to top

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 that value by inflation
  • comparing it with the value of your benefits at the end of that 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 were aligned with the tax year - 6 April to 5 April. Before the 2016/17 year the pension input period for the LGPS was 1 April to 31 March. Special transitional rules applied in the 2015/16 year.

In the LGPS, the value of your pension benefits is calculated by:

  • multiplying the amount of your annual pension by 16
  • adding any lump sum you are automatically entitled to from the pension scheme
  • adding any additional voluntary contributions (AVCs) you or your employer has paid during the year

If the value of pension benefits at the end of the pension input period, less the value of your pension benefits immediately before the start of period (adjusted for inflation), is more than the annual allowance then you may have to pay a tax charge.

Please note: the assessment for the annual allowance covers any pension benefits you have where you have been an active member during the year, not just benefits in the LGPS.

Example

If the increase in the value of your LGPS benefits was £30,000 in 2020/21 when the annual allowance 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, you would be liable for a tax charge on the amount you exceeded the annual allowance by, even though you did not breach the annual allowance in either scheme. 


 

Carry forward  Back to top

You may be subject to an annual allowance tax charge if the value of your pension savings for a year increases by more than the annual allowance 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 increases by more than the annual allowance in a year you may not have to pay an annual allowance tax charge.

Please note: 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.

Example

The value of your pension savings in 2021/22 increased by £50,000 (i.e. by £10,000 more than the annual allowance) but in the 3 previous years had increased by £25,000, £28,000 and £30,000.

The amount by which the increase in your pension savings fell short of the annual allowance for those three years would more than offset the £10,000 excess pension saving in the current year.

You would not have to pay an annual allowance tax charge.


 

Changes to the annual allowance  Back to top

Two important changes to the annual allowance were introduced from 6 April 2016:

  • an annual allowance taper for high earners
     
  • 'pension input period' aligned with the tax year from 6 April 2016 

Tapered annual allowance for higher earners

From the tax year 2016/17 onwards, the annual allowance is tapered for high earning individuals. The AA will be reduced if your 'threshold income'  and 'adjusted income' exceeds the limits in a year.

For every £2 that your adjusted income exceeds the limit, your annual allowance is tapered down by £1. Your AA cannot be reduced below the minimum that applies. The limits changed from the 2020/21 year.

The table below shows the limits that apply.

Type of incomeDefinitionLimit 2016/17 to 2019/20Limit in 2020/21
Threshold income Broadly your taxable income after the deduction of your pension contributions (including additional voluntary contributions  deducted under the net pay arrangement) £110,000 £200,000
Adjusted income Broadly your threshold income plus pensions savings built up over the tax year £150,000 £240,000
Minimum annual allowance If your annual allowance is tapered, the minimum annual allowance that can apply £10,000 £4,000

Threshold income includes all sources of income that are taxable such as:

  • property income
  • savings income
  • dividend income
  • pension income
  • social security income (where taxable)
  • state pension income

Please note: you are not allowed to deduct from taxable income any amount of employment income given up for pension provision as a result of any salary sacrifice made on or after 9 July 2015.

How does the taper work?

In the 2020/21 year, the taper reduced the annual allowance by £1 for £2 of adjusted income received over £240,000, until a minimum annual allowance of £4,000 is reached. This means that from 6 April 2020 the annual allowance for high earners is as follows:

The tapered AA in 2020/21

Adjusted incomeAnnual allowance
£240,000 or below £40,000
£250,000 £35,000
£260,000 £30,000
£270,000 £25,000
£280,000 £20,000
£290,000 £15,000
£300,000 £10,000
£312,000 or above £4,000

The tapered AA from 2016/17 to 2019/20

Adjusted incomeAnnual allowance
£150,000 or below £40,000
£160,000 £35,000
£170,000 £30,000
£180,000 £25,000
£190,000 £20,000
£200,000 £15,000
£210,000 or above £10,000

Examples

Sanjay

Gross salary 2019/20 - £130,000

Less employee pension contributions (11.4%) - £14,820

Plus taxable income from property - £30,000

Threshold income 2018/19 - £145,180

Plus pensions saving in the year - £42,449

Adjusted income 2018/19 - £187,629.

Sanjay's threshold income is more than £110,000 and his adjusted income is more than £150,000. His AA is tapered for the 2019/20 year.

Tapered annual allowance - £21,186 *

In excess of annual allowance - £21,263 (£42,449 - £21,186)

Annual allowance tax charge at marginal rate (assumed to be 40%) - £8,505.20. This is £21,263 x 40%.

* Taper = £187,629 - £150,000 = £37,629 / 2 = £18,814 (rounded down).

Standard annual allowance £40,000 - £18,814 = tapered allowance £21,186

Cerys

Gross salary 2020/21 - £220,000

Less employee pension contributions (12.5%) - £27,500

Threshold income 2020/21 - £192,500.

Pensions saving in the year - £71,837.

Cerys's threshold income is less than £200,000. Her AA will not be tapered in 2020/21. Cerys's pension savings will be measured against the standard AA of £40,000.

Standard AA - £40,000

Pensions savings in excess of AA - £31,837

AA tax charge at marginal rate - £14,327 (marginal rate of 45% assumed)

Huang

Gross salary 2020/21 - £210,000

Less employee pension contributions (12.5%) - £26,250

Plus taxable income from property - £30,000

Threshold income 2020/21 - £213,750

Plus pension saving in the year - £68,571

Adjusted income 2020/21 - £282,321

Huang’s threshold income is more than £200,000 and her adjusted income is more than £240,000. Her AA will be tapered for the 2020/21 year.

Tapered AA - £18,840*

In excess of - AA £49,731

AA tax charge at marginal rate - £22,379 (marginal rate of 45% assumed)

* Taper = £282,321 - £240,000 = £42,321 ÷ 2 = £21,160 (rounded down)

Standard AA £40,000 - £21,160 = £18,840

Please note: the examples above make no allowance for any carry forward and assumes:

  • inflation adjustment of zero
  • the members have no final salary benefits in the LGPS
  • the members are not paying any additional contributions

Aligning the 'pension input period' with the tax year

The pension input period (PIP) is the period over which your pension growth is measured.

Until 2014/15 the pension input period in the LGPS ran from 1 April to 31 March. 

From 6 April 2016, pension input periods for all pension schemes were aligned with the tax year - 6 April to 5 April.

Special transitional arrangements applied for 2015/16.


 

Annual allowance 'flexible benefit' access  Back to top

If you have any benefits in a money purchase (defined contribution) pension arrangement which you have flexibly accessed on or after 6 April 2015 then the money purchase annual allowance (MPAA) rules may apply. The MPAA will only apply if your total contributions to a money purchase arrangement in a pension input period exceed the MPAA.

Generally, if you have flexibly accessed any benefits in a money purchase arrangement on or after 6 April 2015, any further contributions you make to a money purchase scheme in subsequent tax years will be tested against the MPAA.

If your contributions exceed the MPAA your defined benefit pension (LGPS) savings will be tested against the alternative annual allowance and you will pay a tax charge in respect of your money purchase saving in excess of the MPAA.

 The money purchase annual allowance (MPAA)

Tax yearMPAAAlternative annual allowance If MPAA is exceeded
2016/17 £10,000 £30,000
2017/18 onwards £4,000 £36,000

Special transitional rules applied for the tax year 2015/16. Contact us for more information, if applicable.

If you access flexible benefits you will be provided with a flexible access statement. You should provide us with a copy of this statement.

Flexible access means one of the following:

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

Please note: a stand-alone lump sum is a lump sum relating to pre 6 April 2006, where the whole amount can be taken as a lump sum without a connected pension


 

How would I pay an annual allowance tax charge?  Back to top

If you exceed the annual allowance in any year, you are responsible for reporting this to HMRC on your self-assessment tax return.

We will notify you if your pension savings in the LGPS (plus the amount of any additional voluntary contributions (AVCs) you have paid) exceed the standard annual allowance in a year, or if we believe you have exceeded the MPAA, in a year. We must inform you by no later than 6 October which follows the end of the pension input period. However, we are not obliged to inform you if you exceed the tapered annual allowance.

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 standard annual allowance you may be able toopt 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 us no later than 31 July in the year following the end of the year to which the annual allowance charge relates. However, if you are retiring (and take 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 us before you become entitled to those benefits.

We may, at our discretion, also agree to pay some or all of an annual allowance charge on your behalf in other circumstances. For example, this could be where your pension savings are not in excess of the standard annual allowance but are in excess of the tapered or money purchase annual allowance, or where part of the charge relates to pension savings outside of the LGPS. Contact us for more information.


 

Printable version  Back to top

If you wish to print out this information, please select the document below:


 

Further information  Back to top

Self-service portal

Use the self-service portal to view your pension online.

Brief guide to the LGPS

Further information is available on this brief guide to the scheme: 

Annual allowance calculation tool

The national LGPS website for members has an annual allowance calculation tool, please feel free to use it to check the value of your annual allowance.

As a member you can check the amount of annual allowance used from 2016/17 onwards. A decision was taken to keep the annual allowance quick check tool simple so the LGA haven’t incorporated the money purchase annual allowance, tapered annual allowance or any years prior to 2016/17. This is to avoid the pre and post alignment years. As time goes on, the LGA will look to introduce carry forward to the check tool.

Questions about your LGPS membership or benefits

If you have any questions about your LGPS membership or benefits, please contact us.