Higher Rate Tax Relief – Budget Changes – PENSIONS
I thought would all be interested in some interesting information in relation to Pensions.
Key Points
With effect from 6 April 2011 the Government intends to restrict the availability of higher rate
tax relief on pension contributions for people with income of £150,000 or more.
Ahead of this intention Anti-Forestalling measures will be introduced in the 2009 Finance Bill,
effective from 22 April 2009, to prevent individuals potentially affected by the change from
increasing their pension savings prior to the restriction.
Overview
In the Budget on 22 April 2009, the Government announced its intention to limit the pension tax relief for
individuals with income of £150,000 or over.
The change is scheduled to come in with effect from 6 April 2011. From that date the effect of the limit on
tax relief will be to taper the higher rate tax relief so that those below the £150,000 threshold are not
affected but those earning £180,000 or over will only benefit from tax relief worth 20% (ie. the same as to
a basic rate tax payer). The way the tapering will work is yet to be determined.
In anticipation of the new restriction, the Government is introducing temporary rules to apply from 22 April
2009 for the tax years 2009/10 and 2010/11. The purpose of the temporary rules is to prevent those
potentially affected by the 6 April 2011 changes from seeking to forestall this by increasing their pension
savings in excess of their normal regular pattern.
The high level provisions are set out in Budget Note 47 but HMRC have been quick of the mark to provide
additional detailed guidance notes which can be found at :
http://www.hmrc.gov.uk/budget2009/tax-relief-pen-cont.htm
These guidance notes together with the draft legislation form the basis of our understanding and the
background to the detail in the rest of this briefing note.
Initial Reaction
The policy intention has been described at a high level as an intention to “restrict higher rate tax relief on
pension contributions for individuals on incomes of £150,000 or higher. However, it is clear from the anti-
forestalling legislation that the effect is wider than that. What is really happening is that everything going
into a Registered Pension Scheme for a high earner (ie. including employer contributions to a MP
arrangement and benefit accrual under a DB arrangement) is to be treated as though it is a member
contribution on which higher rate tax relief would have been available. A tax charge will be levied to offset
the notional higher rate relief (subject to certain exceptions).
So
Where an individual has made large contributions to a MP arrangement, the tax charge will clearly relate
to higher rate relief that would otherwise have been given. But at the other extreme, where the individual
has made no contributions but has benefited from employer contributions and/or benefit accrual under a
Defined Benefit (Final Salary Scheme) arrangement, the tax charge will still arise and will have to be taken into account through the self-
assessment process.
The temporary rules will apply to individuals with ‘relevant income’ of £150k or more. To determine
whether the ‘relevant income’ test applies it will be necessary to look back at the previous two tax years
as well as the current tax year. Not only that but the determination of ‘relevant income ’ is quite complex
making it harder to identify those clients affected.
Anti –Forestalling Measures
Special Annual Allowance
The Special Annual Allowance provisions potentially apply to any individual who has relevant income of
£150,000 or more and who on or after 22 April 2009 has an adjusted pension input amount greater
than the special annual allowance. The special annual allowance limit starts at £20,000 but is reduced by
any amounts that qualify as protected pension input amounts (subject to a minimum of zero).
Any individual who exceeds the special annual allowance is subject to a charge to income tax on the
excess. For 2009/10 this excess charge is 20% with no amount currently set for 2010/11 although may
well rise to 30% to reflect the new higher rate tax rate from 2010/11. At first glance this tax charge
makes sense as higher rate tax relief is currently 40% so the charge effectively wipes out the benefit of
higher rate tax relief. However, when you dig deeper into the definitions it can be seen that this tax
charge can and will apply to cases where no higher rate relief is available.
It is worth noting that the special annual allowance runs alongside the normal annual allowance charge
although provision has been made to avoid double charging. Where an individual becomes liable to both
charges the special annual allowance tax charge is reduced by any amount chargeable under annual
allowance rules.
On the subject of annual allowance, we know that there is no test for annual allowance if all benefits are
taken in the tax year or client dies. Unfortunately no such general provisions exist for the special annual
allowance, although a few small concession have been granted. The special annual allowance does not
apply where:
The arrangement is a defined benefit arrangement with at least 20 members and the taking of
benefits was not for the purpose of avoiding the special annual allowance.
Benefits are paid due to ill health and the arrangement is either an occupational scheme, a
public service scheme or a group personal pension.
So we now know what the special annual allowance is and when it applies but not how it works in practice
and what the three new definitions introduced actually mean.
Relevant Income
Legislation has been designed to only apply if an individual ’s relevant income for the tax year is £150,000
or more. Unfortunately to determine relevant income you have to go through a 6 step process :
1. Identify total income (ie. All sources of income, not just earned income, upon which you would
normally expect to be charged income tax)
2. ADD pension contributions paid by the individual which have already been deducted in
determining total income (ie. individual contributions under an occupational scheme paid under
the ‘net pay arrangements ’)
3. DEDUCT any income tax deduction and relief other than for pension purposes as allowed by
Section 24 Income Tax Act 2007 (eg Early trade loss relief, Share loss relief, Gifts of Shares
or securities to Charity)
4. DEDUCT total individual relievable pension contributions paid in the tax year up to a maximum
of £20,000 (Would appear to mean personal contributions to all registered schemes regardless
of whether ‘relief at source ’ or ‘net pay arrangement ’).
5. ADD any income which individual has given up as a result of a post 22 April 2009 salary
sacrifice arrangement (See salary sacrifice section).
6. DEDUCT the grossed up amount of any gift that qualifies for GIFT AID.
To further complicate the issue, legislation requires a check against the £150,000 limit not only in the year
a relevant pension contribution is paid but also in the two previous tax years as well. So
for a contribution made in the 2009/10 tax year we have to check if the individual had relevant
income of £150,000 or more in any of the 2007/08, 2008/09 or 2009/10 tax years.
for a contribution made in the 2010/11 tax year we have to check if the individual had relevant
income of £150,000 or more in any of the 2008/09, 2009/10 or 2010/11 tax years.
Adjusted Pension Input Amount
The adjusted pension input amount is the amount that legislation determines has been paid into a pension
over and above normal pension savings. It is when this amount exceeds the special annual allowance
that a tax charge is triggered.
To work out the adjusted pension input amount you go through the following process:
1. Determine the total amount of pension savings by, or in respect of the individual, for the tax
year. To do this you use the same method as for annual allowance pension input except that the
input period is measured over the tax year.
NB This means that contributions that do not attract higher rate tax relief (Employer contributions
and accrual under defined benefit arrangement for example) are included in the calculation.
2. Deduct from the total :
a. any Pension Protected Input amount (normal pension saving)
b. any amount of refund lump sum made in the tax year
c. any amount paid between 6 April 2009 and 21 April 2009.
Protected Pension Input Amount
The legislation is intended to apply only to individuals who increase their pension contribution before 6
April 2011 beyond their normal regular pension savings. A protected pension input amount has therefore
been introduced to capture such normal regular pension savings.
The definition of normal pension savings can be summarised as :
For Defined Benefit arrangements – There has been no change to the method in which benefits are
calculated except where the scheme has at least 50 active members for whom the basis will be changed.
For Money purchase arrangements – there has been no increase in contributions other than on a basis
agreed prior to 22 April 2009 where contributions have been paid continuously on at least a quarterly or
more regular basis from a date before 22 April 2009.
This means that annual contributions, regular single contributions and one off single contributions fall
outside of the definition for protected pension input amounts. For the avoidance of doubt this means
increases agreed but not paid for on at least a quarterly basis (annual contribution increasing in line with
salary for example) are not protected.
Just to complicate matters further all contributions paid between 6 April 2009 and 21 April 2009 are
treated as Protected Pension Inputs, regardless of frequency of payment, but not subject to the special
annual allowance charge. This is best illustrated by an example:
Employee earning £170,000 per year contributing £1,000 per month who made a one off contribution of
£10,000 on 15 April 2009.
Special Annual Allowance reduces by £12,000 regular monthly contributions and then by a further
£10,000 one off contribution (Capped at £20,000 maximum) leaving no special annual allowance for
2009/10.
Total contributions are £22,000 and normal pension savings condition has been broken but the excess of
£2,000 is not subject to a tax charge as it is generated from a pre 22 April 2009 contribution.
So there you have it, I have even left some details out of this, they really are too boring.
Just so you know, this is the Government that gave us Pension Simplification a few years ago.
If you have any further concerns please let me know
Richard Smith
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