At the beginning of March, I summarised some of the radical changes that we could potentially have expected from Rishi Sunak in his debut budget. Harold Wilson once said, “a week is a long time in politics”, and this rang true, as the government’s focus suddenly changed to dealing with the devastating effects of the coronavirus outbreak. Given the gravity of this situation, it was no surprise that no major changes were announced.
A small change that I would like to highlight covers the chancellor’s announcement that ‘threshold income’ for triggering the rules on tapering of the pensions tax annual allowance (aka Tapered Annual allowance) will be increased with effect from 6 April 2020 and a corresponding increase will be made to the ‘adjusted income’ limit.
Tax relief on pension contributions is restricted by an annual allowance of £40,000 (not including eligible carry forward). Annual allowance is currently reduced or ‘tapered’ for those with an ‘adjusted income’ of over £150,000 but only where ‘threshold income’ of £110,000 is also exceeded. The £40,000 annual allowance is tapered by £1 for every £2 that the individual’s adjusted income exceeds £150,000, i.e. from £40,000 to a current minimum of £10,000.
Here is an example of of Tapered Annual Allowance in 2019/20:
Gayle has a gross annual salary of £190,000 and works for the NHS. She is a member of the NHS Defined Benefit pension scheme and pays a contribution of 14.5% .
The actual amount of contribution that she makes of 14.5% of gross salary (£27550pa gross), bringing her threshold income down, but not below £110,000. Her net adjusted income based on the pension accrual value of £66,000 (£4125 pa increase in pension) is £190,000 less £27550, but plus £66000 = £228,450.
Her adjusted income is £78,450 over the threshold of £150,000.
Her tapered annual allowance is £10,000 (normal £40,000 AA reduced by £1 for every £2 income exceeds £150,000), and so she will either have to use carry forward, scheme pays or face an income tax bill on the excess of £66,000 less £10,000 = £56,000 taxable accrual at 45% is a healthy tax bill for the pension accrual that has taken place (not to mention the contributions she has already paid..).
That is the situation today and where high-earners in NHS are asking questions about the cost of maintaining membership in the NHS pension scheme.
But, going forward into the next tax year.
Here is an example of of Tapered Annual Allowance in 2020/21:
Gayle has a gross annual salary now of £239,000 and still works for the NHS (she got a nice promotion!). She is a member of the NHS Defined Benefit pension scheme and pays a contribution of 14.5% .
The actual amount of contribution that she makes is 14.5% of gross salary (£34655 gross), bringing her threshold income down, but not below the new £200,000 limit, so taper still applies…
Her net adjusted income based on the pension accrual value of £70,000 (£4375pa increase in pension) is £239,000 less £34655, but plus £70000 = £274345
Her adjusted income is £34345 over the threshold of £240,000.
Her tapered annual allowance is worked out by reducing by £1 for every £2 income exceeds £240000…
So, 34345/2 = 17173 = a tapered annual allowance of £22827
So, Gayle will either have to use carry forward, scheme pays or face an income tax bill on the excess of £70,000 less £22827 [taxable accrual at 45%], but at least with a very health pay rise and good pension accrual rate, she still has some tapered annual allowance to help reduce the impact of the large pension accruals associated with higher-earners (and on a like for like basis, pay less tax next year).
From 6 April 2020 the threshold income and adjusted income figures will both be increased by £90,000 to £200,000 and £240,000 respectively. At the same time the government has announced that the minimum tapered annual allowance will reduce from a base of £10,000 to £4,000.
Currently 250,000 individuals are affected by the tapered annual allowance, so the increased threshold limits will help lift most people other than the really high net worth out of the “taper trap”. These increases are primarily intended to help address the adverse tax consequences suffered by senior NHS consultants, some of whom have been materially disadvantaged by conducting extra work that has taken them over the threshold income limit.
However, the changes will not just benefit those in the NHS scheme, but members of all pension schemes.