UK pension contributions: Understanding the Annual Allowance and tapering

Ensuring a stable future through pension planning is vital, but you may not know that there’s a limit to the amount you can save. If you’re making high levels of pension contributions, you need to understand how the Annual Allowance and tapering work as you may incur a tax charge.

The Annual Allowance sets the maximum amount individuals can contribute to their pensions annually without facing extra taxes, while tapering further complicates matters for high earners. This blog will explain how these may affect your pension.

Annual Allowance

The Annual Allowance serves as a threshold, determining the maximum amount that individuals can contribute to their pension pots yearly, without incurring additional tax liabilities. For the current 2024/25 tax year, the standard Annual Allowance stands at £60,000. This figure includes all contributions made, be it personal, employer, or by a third-party. If contributions in a year exceed this allowance, an additional liability, known as the Annual Allowance tax charge, will arise, reducing the tax benefits associated with pension contributions.

How much is the Annual Allowance tax charge?

The Annual Allowance tax charge is applied to the value of contributions exceeding the Annual Allowance. The excess will be taxable as the top slice of your income at the rates of 20%, 40% and 45% respectively. If the charge falls within multiple tax brackets, any of the charge falling within the lower rate band would be taxed accordingly, with the remainder at the higher percentage.

Tapering

Tapering further complicates the Annual Allowance for high earners. Under tapering rules, the Annual Allowance decreases for individuals when income surpasses certain thresholds.

The threshold income for tapering currently stands at £200,000, while the adjusted income threshold is set at £260,000.

Various adjustments are applied to net taxable income to arrive at these two thresholds. For threshold income, these include adding back salary sacrifice pension provisions and deducting private pension contributions. Adjusted income takes the same starting point, then adds employer contributions and defined benefit pension growth. Please note that these are the most common adjustments, but the list is not exhaustive.

If both of the thresholds are breached, your Annual Allowance is reduced by £1 for every £2 that adjusted income exceeds £260,000. 

The minimum allowance is set at £10,000, which applies once adjusted income exceeds £360,000.

Unused allowances from earlier years

Some good news with the system is that if you were enrolled in a registered scheme (whether private or employer-based) in the three preceding tax years, any remaining allowances from those can be used to offset any excess contributions in the current tax year.

Already accessed a pension?

If you have already accessed a pension (i.e. taken a lump sum, purchased an annuity or started taking regular income), the standard Annual Allowance does not apply. Instead you will be subject to the Money Purchase Annual Allowance, which is capped at £10,000 regardless of your level of income.

How we can help

Planning and calculating your pension contributions can be very complicated, therefore, it’s important to get professional advice. We would also advise our clients to seek advice from an independent financial advisor, who can assist you with making additional contributions and advise on how your pension is invested.

If you have any questions about this topic or any other way you could be saving tax, please get in touch with your usual contact at Larking Gowen. Call 0330 024 0888 or email enquiry@larking-gowen.co.uk.

You can find contact details on the Our People section of the Larking Gowen website.

Oliver Pilgrim