Thousands of people who put money into their pension each year are inadvertently failing to declare pension tax charges, according to HM Revenue & Customs (HMRC).
This can lead to an unexpected and costly tax bill.
Most taxpayers can save up to £40,000 in pension contributions tax-free each tax year, a limit that is set to remain in place until 2026. Any contributions above this amount are subject to Income Tax and must be included in the Self-Assessment Tax Return.
However, the highest earners, with annual incomes of more than £240,000, can see their pension annual allowances taper down to as little as £4,000, largely wiping out the tax benefits of putting money aside for retirement.
The annual allowance tapers away by £1 for every £2 of income over £240,000. Someone with an income of £270,000 for example would be £30,000 over the threshold and so lose £15,000 of the allowance, leaving a limit of £25,000 to put into their pension tax-free.
Meanwhile, those with an income of £312,000 or more, will benefit from an annual allowance of just £4,000, which is the lowest level it can fall to.
Similarly, people who are drawing down their pensions flexibly must pay Income Tax on any contributions above the £4,000 Money Purchase Annual Allowance.
Yet, because pension schemes are only obliged to alert people who exceed the usual £40,000 limit, many affected individuals seem to be unaware of the prospect of a substantial tax bill on everything over and above as little as £4,000.
This is something that has hit the headlines in recent years for its effect on doctors in the NHS, although fewer should now be effected as the earnings threshold has risen by £90,000 from £150,000.
Your annual allowance applies to all of your private pensions if you have more than one.
- The total amount paid into a defined contribution scheme in a tax year by you or anyone else (for example, your employer)
- Any increase in a defined benefit scheme in a tax year
- If you use all of your annual allowance for the current tax year
You might be able to carry over any annual allowance you did not use from the previous three tax years.