Pension Allowances: Finding a way through the maze

Published: 3/9/2020
By Denplan & Chase de Vere

If you’re saving into any form of pension scheme, it’s important to understand how savings allowances have the potential to affect your tax bill. Our partners, Chase de Vere Dental, have some advice to share, to help you navigate through the pension maze and find the retirement plan that suits you best. 

Find your footing between allowances and tax bills

In the UK, pension schemes are a tax-efficient and attractive way to save for the later stage of life – and the NHS Pension Scheme, open to many dentists, is a particularly valuable example. Chase de Vere Dental says, “It offers guaranteed income in retirement and generous government contributions to your savings. However, the way that the pensions system works in the UK does mean some dentists in the scheme are at risk of incurring sizeable tax bills. This doesn’t undermine the benefits that the NHS Pension Scheme offers, but it’s important that you understand how you might be affected.”

Chase de Vere Dental continues, “The key principle to grasp is that all pension saving in the UK is subject to a system of allowances. These impose limits on how much saving you may do each year and how much saving you may build up overall. There’s nothing to stop you exceeding these allowances, but if you do, you potentially face tax charges.”

The low-down on allowances

Chase de Vere Dental tells us that, “these limits are known as the annual allowance, which is calculated each year, and the lifetime allowance, which is calculated based on your overall pension benefits when you actually draw them.”

The annual allowance

Chase de Vere Dental explains: “Starting with the annual allowance, this is the total amount of benefits that you can build up in a defined benefit pension scheme, such as the NHS Pension Scheme, each year, and the total amount of contributions you can pay into defined contribution pension schemes such as personal pensions. It’s set by the Government and applies to any registered pension scheme - and certain non-UK pension schemes - but it doesn’t include the State Pension. The standard annual allowance limit is currently set at £40,000.

“If your pension savings or benefit accruals total more than the annual allowance in one tax year, you’ll incur a tax charge on the additional amount, reflecting your marginal income tax rate. You can either pay this charge upfront, or, in some cases, out of your pension scheme benefits.

“It’s possible to carry forward any unused annual allowance, providing you’re a member of a qualifying pension scheme, from each of the three previous tax years. You can carry forward unused annual allowances for a maximum of three years, as long as you were a member of a registered pension scheme in the year that you’re carrying forward from.

“One complication to consider is the government’s tapered annual allowance rules, which were introduced in April 2016 and adjusted in April 2020. In the tax years 2016-17 to 2019-20 if your threshold income, which is widely your taxable income, is above £110,000 or £200,000 from the tax year 2020-21 onwards, it’s possible that your annual allowance will be lower than the usual £40,000 limit. The allowance you receive tapers down as your income increases – to as little as £10,000 a year in the years between 2016-17 and 2019-20, and potentially even further, to £4,000 a year in 2020-21.”

The lifetime allowance

As Chase de Vere Dental explains, the lifetime allowance leads you on a different path:

“As for the lifetime allowance, this is the total capital value of pension benefits which can be built up in all your pension schemes, without incurring a tax charge. The exception may be if you have previously applied or qualify to apply for pension protection. As with the annual allowance, the lifetime allowance is set by the Government and the current limit is £1,073,100. The Government’s policy currently is for this to increase annually in line with inflation, as measured by the Consumer Prices Index.

“There are a number of factors that might mean you trigger this charge, including long pension membership, high earnings and private pension investments you have in addition to the NHS Pension Scheme. If you do exceed the lifetime allowance you may be at risk of incurring this charge at retirement.”

Carefully assess your bearings

“Working out whether you’re at risk of going beyond the annual allowance or the lifetime allowance can be challenging, especially if you’re a member of the NHS Pension Scheme”, says Chase de Vere Dental.

“The NHS Pension Scheme is a defined benefit arrangement – that is it pays out a guaranteed level of income in retirement, depending on how many years you’ve been a member of the scheme and your earnings. In defined benefit schemes, it’s the value of your pension benefits that’s used to assess whether you might face tax charges – and there are complicated formulas for working out that value.

“This can be particularly tricky with the annual allowance, where you’ll need to assess how the value of your pension savings has grown over the tax year. The NHS Pension Scheme automatically informs members where it can see they’ve exceeded the standard annual allowance of £40,000. But it’s essential to bear in mind that the NHS Pension Scheme won’t know anything about your non-pensionable earnings, private income, or any other pension contributions you may be making. It’s therefore vital that you request a Pension Savings Statement from the scheme each year, which will help you assess your position.”

Stay on track

Annual allowance and lifetime allowance charges can be expensive, so make sure you plan well if you’re at any risk. Chase de Vere Dental says, “For example, as your taxable income increases, your annual allowance may be tapered. Similarly, exceeding the lifetime allowance can lead to you receiving less pension income than expected.”

The obvious step is not always the right one. “Some dentists for instance have opted out of the NHS Pension Scheme to avoid annual allowance charges. But this means paying income tax on earnings that would otherwise have been paid as tax-efficient pension contributions. It also means missing out on certain valuable death-in-service and ill-health retirement benefits”, concludes Chase de Vere.

We’ll help you find the right path

Pension allowances can be complicated. So one thing’s for certain: getting good-quality independent financial advice is vital. Chase de Vere Dental has the knowledge, experience and know-how to help you find your way through the tricky maze so you may reach your retirement goal.

If you’re ready to turn your first corner, please contact Chase de Vere here.

Please note:

Information is based on Chase de Vere’s current understanding of taxation legislation and regulations. Any levels and bases of, and reliefs from, taxation are subject to change.

The value of investments and income from them may go down. You may not get back the original amount invested.

Past performance is not a reliable indicator of future performance.

About Chase de Vere

Andrea Sproates has worked in Financial Services for 36 years. 21 years ago Andrea moved to BMA Services providing independent financial advice to both doctors and dentists before progressing to a Management position. She then spent several months managing a team at a specialist healthcare accountancy practice before returning as Head of BMA Services at Chase de Vere twelve years ago. Andrea now heads up both Chase de Vere Medical and Chase de Vere Dental and is widely recognised in the financial services arena as an expert on the NHS pension scheme and pension taxation legislation. 

Phil Bower has worked in management roles within Financial Services for over 25 years and has been a specialist in providing Financial Advice to Doctors and Dentists since 2004. Phil is a level 4 qualified Financial Adviser and has a passion for providing a high level of service, technical knowledge and financial advice to the Dental and Medical Profession. This passion led him to join Chase de Vere in early 2016 to work in partnership with the BMA as their Business Development Manager.