Tony Granger considers how to increase your pension contribution funding, but warns of potential pitfalls.
Budget 2014 prepared the way for increased flexibility with regard to the future of defined contribution pension funds, allowing greater access to pension funds as cash and doing away with the need to annuitise by age 75, whilst also allowing continued pension contributions beyond age 75 (which was not possible before).
This, in turn, has created greater interest in pension funding as a way of saving for retirement in a tax-efficient manner. However, for the 2014/15 tax year, we also see a reduction of the lifetime allowance for pension funds to £1,250,000 and the annual allowance for making pension contributions reduced by 20% to £40,000 per annum. On the one hand we have greater flexibility; on the other, further restrictions on the size of funding and level of contributions.
Carry forward
Unused pension contribution allowances from up to three previous tax years can be brought forward. The unused annual allowance is calculated by deducting any contributions made in those tax years. Tax relief on contributions is only granted in the year in which contributions are paid and not in the year from which they have been carried forward. In 2014/15, you (and/or employer) can make £190,000 worth of pension contributions using the carry forward rules.
Pitfalls
It may not be possible to make contributions, or claim tax relief for them. If contributions are made, they may be in excess of what is allowable, with penalties applying. Some of these pitfalls are as follows:
- You must have been a member of a pension fund or scheme during the tax year you are carrying forward relief. If you were a member of such a pension fund and had made no contributions for many years, the fact that the pension scheme was in existence at the time is important.
- The pension scheme to which you wish to contribute may not be able to accept new contributions. To carry forward you must be a member of a pension scheme, even if not contributing to that scheme currently. If a member of an old scheme you can make contributions to a new scheme if that old scheme does not accept further contributions
- Carry forward works on a rolling year basis – if not used in this tax year (2014/15), the third years’ (2011/12) contributions allowance would be lost.
- You must make the current year’s contribution first, before carrying forward. You may not have relevant earnings in the current tax year, and therefore may not be able to utilise allowances from previous tax years (even if you have a lump sum to make those contributions).
- You must qualify under the annual allowance rules for the annual allowance in that particular tax year. The maximum contributions that can be made and carried forward are: 2014/15 - £40,000 – current year contribution made first 2013/14 - £50,000 – for each year this is the allowable amount 2012/13 - £50,000 2011/12 - £50,000
- You must also satisfy the ‘relevant income’ rules. For example, you cannot make a contribution of more than 100% of earned income in any one tax year. So the amount to carry forward will depend on the earned income in that tax year. If say, 100% of earned income in 2013/14 was £32,000, then that is the maximum that can be contributed in that tax year (of the £50,000 allowable).
- Tax relief on personal contributions is limited by the individual’s relevant UK earnings in the tax year in which the contribution is paid.
- The amount of annual allowance is applied on the contributions paid in the ‘pension input period’ which ends in a particular tax year. Where the pension input period ends on a date other than the tax year end, the contributions will not always be tested against the annual allowance in the year in which paid. The contribution may be paid in one tax year (say 2014/15), but fall into another tax year (say 2015/16) and tested in that tax year. This may lose you the ability to claim carry forward from a particular tax year. However, there is flexibility to change input periods and not lose a carry forward year.
- If you exceed the annual allowance in a given tax year, there is an ‘annual allowance charge’. However, this may not be the case if you have unused annual allowances from the previous tax years.
Practical Tip:
There are hazards and pitfalls when using carry forward to make increased pension funding. Ensure that you were a member of (any) pension scheme during the carry forward period, that pension input periods do not lose you a carry forward year, and that you have net relevant earnings to make contributions.
