The dreaded Pension Annual Allowance charge. The charge that can be requested by HM Revenue and Customs (HMRC) from anyone who is contributing too much to their workplace or private pension.
Putting savings away so you can look after yourself in the later stages of your life…. How outrageous!
Hard to believe that you can be penalised for prudent saving. But this is the way the rules are currently designed and they have become more complex over the last few years. This is catching lots of people out especially Doctors and Dentists.
You can find out how the Pension Annual Allowance works and those most impacted by the Tapered Annual Allowance in my recent article here.
If you do now face a Pension Annual Allowance charge, how do you actually pay it? I mean we could be talking some serious sums of money here. I’ve seen reports of 5 figure tax bills!
You basically have two options.
Pension Annual Allowance Charge paid by you
Regardless of how you end up paying your Pension Annual Allowance charge you will need to declare the figures on your Self Assessment Tax return. If you don’t already complete a tax return then you will need to register for self assessment.
You will need to complete the ‘additional information’ section of the tax return with details of the amount of contribution you have made to pensions that exceeds the Annual Allowance.
Once the tax return is submitted, HMRC will work out what Pension Annual Allowance Charge is due, add this to any other payment required for ‘normal’ Income Tax and request the charge from you.
There are two points to consider here.
- You will need to be able to understand how to work out your Pension Annual Allowance charge. More specifically, you will need to know how much you have overcontributed. This is easier said than done now the rules have been made more complex, particularly for high earners. Professional financial advice here is essential.
- If you feel you are likely to incur a Pension Annual Allowance charge and wish to pay it yourself, you will need to budget for this and keep money aside. Not everyone has the cash flow available to immediately pay a large one off bill when requested.
Pension Annual Allowance Charge paid by your pension scheme
Otherwise known as ‘Scheme Pays’.
You can request that your pension scheme actually pays the Pension Annual Allowance charge on your behalf. By doing this it could solve any cash flow problems you might have but it will end up reducing your future pension benefits.
There are certain conditions that need to be in place for your pension scheme to agree to pay the charge out of your pension. They are as follows:
- The Pension Annual Allowance charge must be over £2,000.
- The amount contributed to the pension scheme you wish to pay, the charge must be over £40,000 (the current ‘normal’ Annual Allowance).
These conditions are the same even if you have a lower Annual Allowance due to the Tapered Annual Allowance rules.
You can ask your pension scheme provider to pay the charge even if the above conditions are not met, but they will not have to oblige.
In order to use ‘Scheme Pays’ you must submit your request to your pension provider by the 31st of July in the year after the tax year in question. So for example, for a Pension Annual Allowance charge due for the 2018/19 tax year you must submit the request by 31st July 2020.
You will still need to add details of the overpayment of pension contributions to your self assessment tax return and will also need to confirm what amount has been paid by ‘Scheme Pays’.
For defined contribution schemes your pension benefits will be reduced by the charge being deducted from your pension pot.
For defined benefit schemes like the NHS Pension Scheme your future pension income will be reduced by a complex formula.
Ultimately you are responsible for understanding the Pension Annual Allowance rules and to know when a charge is due. This is nitty gritty stuff. Getting it wrong could lead to an even larger bill further down the line as HMRC chase you for unpaid taxes.
Different pension schemes operate differently and the way you contribute to them can differ also. You need to be aware of the whole picture.
If you would like support then why not take advantage of our free 15 minute call. You can speak to a Chartered Financial Planner who will listen to your situation, give you an outline of what you need to consider and guide you in the right direction. With the right planning you could avoid over contributing to your pension but still grow your overall investment portfolio.
Stock market linked investments and any income from them, can fall as well as rise and is not guaranteed. Any figures quoted are for illustrative purposes and should not be taken as a forecast or guarantee. Past performance should not be seen as an indication of future returns and clients may get back less than they have invested.