This term refers to a further limit on the amount of tax relief higher earners can claim on their pension savings.
From April 2020, the tapered annual allowance only affects those who meet both of the requirements shown below:
- your ‘threshold income’ is above £200,000, and
- your ‘adjusted income’ is above £240,000.
Working out your threshold and adjusted income can be complicated. You can see how it works and some examples on HMRC’s website.
In practice, the tapered annual allowance will mean that for every £2 of taxable income you earn above £240,000, your annual allowance will reduce by £1. The maximum reduction is £36,000 – so anyone with an income of £312,000 or more will have an annual allowance of £4,000.
It’s okay, you can go over your reduced annual allowance, you just won’t get tax relief on any contributions you paid that exceed the limit in that tax year.
The amount you’ve exceeded the annual allowance by will be added to the rest of your taxable income for the tax year and be subject to Income Tax at the rate(s) that apply to you.
You might be able to ‘carry forward’ any unused annual allowance from the previous 3 tax years to either reduce your annual allowance charge or remove it completely – though this isn’t possible if you’ve previously taken income from flexi-access drawdown, taken a flexible lump sum, or if you haven’t been a member of a registered pension scheme in the last 3 years.
If you still have an excess amount after carrying forward, you’ll face Income Tax at the rate(s) that apply to you.
It either gets taken in your tax return, or you might be able to ask your pension provider to pay it out of your pension savings if certain conditions are met. This is known as ‘Scheme Pays’ and means your pension would be reduced.