Write to Pensions Doctor with your pension problem: [email protected]. Columns are published weekly.
I really enjoy your column. Thank you very much for all your helpful insights.
I have a question about pension contributions following reading a related story.
A few years ago I suffered a serious bout of ill health and had to leave the company I worked for (which was a partnership). I was left unable to work and was awarded a disability pension (of about a fifth of my previous salary) even though this was several years before the normal retirement date.
Since then I was told that I could only contribute £3,600 a year toward my pension. I checked this with HMRC and it seemed unclear of the rules and they discussed the matter with my company and subsequently agreed that £3,600 was the maximum I could save into a pension.
This seems grossly unfair given the illness was not my fault. Is this really the case?
Do you have any insight into this type of issue?
Many thanks and best wishes, Anon
HM Revenue & Customs doesn’t impose limits on the amount of contributions someone can make into a registered pension scheme – but there are limits on the amount of contributions that can receive pension tax relief.
People can receive tax relief on contributions up to £3,600 (so £2,880, plus the tax relief) or up to their relevant UK earnings that are chargeable to income tax for that tax year – whichever is greater.
As you are no longer working and earning an income, the most you can put into a pension and still receive tax relief is £3,600.
This is the same for everyone, in the eyes of the taxman having a disability or illness preventing you from working or any other personal circumstances surrounding why someone is no longer able to work and earn an income aren’t taken into account.
Pension income doesn’t fall within the definition of relevant UK earnings and so where someone’s only income is pension income, the tax relievable contributions would be limited to £3,600.
There are other limits that apply to pension contributions.
Pension savings are tested against the annual allowance, which is currently £60,000. There’s also the “tapered” annual allowance, which kicks in once someone’s “adjusted income” is more than £260,000 a year and means they lose £1 for every £2 they earn over £260,000.
If someone has flexibly accessed their pension savings through what’s known as a “money purchase arrangement”, they may instead be subject to the money purchase annual allowance (MPAA), which is currently £10,000. This was increased this year from £4,000, to give people who access their pensions but then want to start paying in again more opportunity to do so. This is very much aligned with the Government’s push to get the over 50s back to work.
Why are there limits on the amount of pension contributions that are given tax relief, you may ask?
The reason is that tax relief is designed as an incentive to encourage people to save for retirement, and in general, the idea is to offset tax that has become due from earnings rather than simply being a gift.
So limits can help to prevent pre-planned “recycling” of pension funds, among people who are able to flexibly access their pensions, but are also still able to pay into them. Very crudely, recycling is where you take money out of your pension, then, because you might not actually need it yet, put it back in, attracting tax relief on that money at your marginal income tax rate. With tax relief being at least 20pc for basic rate taxpayers, going up to 40pc for higher rate taxpayers and 45pc for additional rate taxpayers, you can see that recycling would result in some potentially big, rapid gains that would have bitcoin enthusiasts salivating.
Clearly this is something that HMRC doesn’t want to occur, and there are big penalties for those caught by the recycling rules. But it is permitted within certain parameters, as there are legitimate circumstances in which someone could find themselves able to put more into a pension after having started to access it.
They might decide to go back to work and build up a bigger pension pot, for example, or they receive an inheritance and want to put some of it in a pension.
So if you were able to do some form of work again, which resulted in your earnings rising, you could potentially put more into a pension. Or you could put more into a pension now if you wanted – remember, it could still potentially benefit from investment growth. It just wouldn’t get tax relief over the £3,600 limit.
Or, you could consider an Isa for further savings – income taken from an Isa isn’t subject to tax – so they are worth considering.
Write to Pensions Doctor with your pension problem: [email protected] Columns are published weekly.