Pension

When planning pension funding, inflation is often acknowledged but not always fully reflected in contribution decisions. Using an average inflation rate of around 5% over recent years helps to illustrate why this matters so much. Even when inflation appears to be easing in the short term, its long-term effect on retirement income can be significant.

Inflation erodes purchasing power. A pension pot that looks comfortable today may buy far less in real terms by the time retirement arrives. At an average inflation rate of 5%, prices double roughly every fourteen years. This means that someone planning to retire in twenty years’ time will need close to twice the income they might intuitively expect, just to maintain the same standard of living. Ignoring inflation risks building a pension fund that appears adequate on paper but falls short in practice.

Inflation also affects investment returns. Pension growth is often discussed in nominal terms, but what really matters is real growth, that is growth after inflation. A fund growing at 6% per year sounds healthy, but if inflation is averaging 5%, the real increase in value is modest. This has implications for asset allocation, contribution levels and the balance between growth and lower risk investments as retirement approaches.

For those making regular contributions, inflation should influence both the starting level and how contributions increase over time. Flat contributions that are not reviewed regularly lose real value year by year. Linking contribution increases to inflation or at least reviewing them periodically in light of inflation trends, can make a material difference to the eventual outcome.

Finally, inflation uncertainty reinforces the importance of flexibility. Retirement may last twenty or thirty years, during which inflation will vary. Building in a margin of safety, through higher contributions or diversified investments, can help protect against prolonged periods of higher inflation.

Taking inflation seriously is not about pessimism. It is about realism. Factoring an average inflation rate of 5% into pension planning leads to better informed decisions and a greater chance that retirement income will meet expectations when it is most needed.

Automatic enrolment for workplace pensions has helped many employees to start making provision for their retirement with employers and government also contributing to make a larger pension pot.

The law states that employers must automatically enrol workers into a workplace pension if they are aged between 22 and State Pension Age, earns more than minimum earning threshold. The minimum threshold is currently £10,000 and will remain the same in 2026-27. The employee must also work in the UK and not already be a member of a qualifying work pension scheme. Employees can opt-out of joining the pension scheme if they wish.

Under the rules, employers are also required to offer their workers access to a workplace pension when a change in their age or earnings makes them eligible. This must be done within 6 weeks of the day they meet the criteria.

Under the automatic enrolment rules the employer and the government also add money into the pension scheme. There are minimum contributions that must be made by employers and employees.

Both the employer and employee need to contribute. There is a minimum employer contribution of 3% and employee contribution of 4%. This means that contributions in total will be a minimum of 8%: 3% from the employer, 4% from the employee and an additional 1% tax relief. For example, if you pay £40, your employer adds £30, and you receive £10 in tax relief, a total of £80 goes into your pension.

In most automatic enrolment schemes, employees make contributions based on their total earnings between £6,240 (the lower qualifying earnings limit) and £50,270 (the upper qualifying earnings limit) a year before tax. This means that for many employees the 8% contribution rate will not be based on their full salary.

The Additional State Pension is only available to those who reached the state pension age before 6 April 2016 and are receiving the Old State Pension. The Additional State Pension is an extra amount of money paid on top of the basic Old State Pension.

The Old State Pension is designed to provide individuals of state pension age with a basic regular income and is based on National Insurance Contributions (NICs). To get the full basic State Pension, most people need to have had 35 qualifying years of NICs.

Claimants will automatically have received the Additional State Pension if they were eligible for it. Those who had contracted out were not eligible for the Additional State Pension.

If your spouse or civil partner dies, you may be able to inherit some of their Additional State Pension if you reached State Pension age before 6 April 2016. If you do not receive the full basic State Pension, you may be able to increase it by using your spouse or civil partner’s qualifying National Insurance years.

You may also be able to inherit part of their Additional State Pension or Graduated Retirement Benefit. Different rules apply if you reached State Pension age on or after 6 April 2016. If relevant, you should contact the Pension Service to check what you can claim.

The Chancellor has kept the main pension allowances unchanged but has confirmed a new cap on salary sacrifice arrangements that will apply from April 2029.

There had been heated speculation that the Chancellor would change the pension rules to help the government raise taxes, but no changes were announced to the annual allowance (which remains at £60,000) or to the carry-forward rules which can use up previous year’s annual allowances. The lump sum allowance has also remained unchanged at £268,275.

However, the Chancellor announced changes to the salary sacrifice arrangements for pension contributions. Salary sacrifice allows employees to reduce part of their salary or bonus in exchange for pension contributions, which is tax-efficient and helps save for retirement. However, this arrangement has disproportionately benefited higher earners with salary sacrifice costs expected to rise from £2.8 billion in 2016-17 to £8 billion by 2030-31.

From April 2029, the government plans to introduce a cap on salary sacrifice contributions which will limit the amount that can be sacrificed without incurring National Insurance Contributions (NICs) to £2,000 per employee. Salary sacrifice contributions above this amount will be subject to employer and employee NICs. Pension contributions that are not part of a salary sacrifice will remain unchanged.

The Chancellor reaffirmed the government's commitment to maintaining the Triple Lock on the State Pension throughout this parliament. This means that in April 2026, the State Pension will increase by 4.8%. The Triple Lock ensures that the State Pension rises by the highest of three measures: inflation, wage growth, or 2.5%, helping to protect pensioners' income against rising costs of living.

Also, starting from 6 April 2027, the government will close a loophole that allows individuals to use pensions for inheritance tax (IHT) planning. Under the new rules, any unspent pension pots will be brought within the scope of IHT.

The annual allowance for tax relief on pensions has been fixed at £40,000 since 6 April 2014. The annual allowance is further reduced for high earners. Since 6 April 2020, the tapered annual allowance increased from £150,000 to £240,000. 

This means that anyone with income below £240,000 is no longer affected by the tapered annual allowance rules. Those earning over £240,000 will begin to see their £40,000 annual allowance tapered. For every complete £2 income exceeds £240,000 the annual allowance is reduced by £1. The annual allowance can also be lower if the taxpayer flexibly accessed their pension pot.

There is a three year carry forward rule that allows taxpayers to carry forward unused annual allowance from the last three tax years if they have made pension savings in those years. The calculation of the exact amount of unused annual allowance that can be carried forward can be complicated especially if you are subject to the tapered annual allowance.

There is also a pensions lifetime allowance that needs to be considered. The lifetime allowance limit is currently £1,073,100.

The decision of the Chancellor, Rishi Sunak to increase the tapered annual allowance thresholds in the Budget earlier this month will have been welcomed by many high earners. From 6 April 2020, the tapered annual allowance will increase from £150,000 to £240,000. The annual allowance for tax relief on pensions will remain at £40,000 for 2020-21.

This means that anyone with income below £240,000 will no longer be affected by the tapered annual allowance rules. From April, those earning over £240,000 will begin to see their £40,000 annual allowance tapered. For every complete £2 income exceeds £240,000 the annual allowance is reduced by £1.

The minimum level to which the annual allowance can taper down will also be reduced from £10,000 to £4,000. This reduction in the annual allowance will only kick-in for individuals whose income is over £300,000 and who will lose up to a further £6,000 of annual allowance in 2020-21. This will affect only those with the very highest earnings. A taxpayer earning £312,000 or more will only be able to contribute a maximum of £4,000 into a pension with the benefit of tax relief in 2020-21.

There is also a three year carry forward rule that allows taxpayers to carry forward unused annual allowance from the last three tax years if they have made pension savings in those years. The calculation of the exact amount of unused annual allowance that can be carried forward can be complicated especially if you are subject to the tapered annual allowance.

There has been much press speculation that the Government is considering cutting higher rate tax relief for pension contributions in the March Budget. However, many Tory MPs are said to be up in arms at such a move and have been trying to quash such a reduction.

There are also concerns that such a complex change to pensions relief could come into effect with very little advance warning.

If you pay tax at a higher rate, the pension relief you can claim should not be underestimated. Even if we don’t see a change in the upcoming Budget this is a move that has been mooted for quite some time and could happen over the coming years. If you are considering making a pension contribution this year, you should consider maximising your contributions just in case changes are announced on Budget day.

You can currently claim tax relief at your highest rate of Income Tax for your private pension contributions, subject to the overriding limits. There is an annual allowance for tax relief on pensions of £40,000. There is also a three-year carry forward rule that allows you to carry forward any unused amount of your annual allowance from the last three tax years if you have made pension savings in those years. There is also a lifetime limit for tax relief on pension contributions. The limit is currently £1.055 million.

Please note, there is a tapered reduction of the annual allowance for high earners. If your income is in excess of £150,000 you will suffer a reduction in your annual allowance. For every complete £2 your income exceeds £150,000 the annual allowance is reduced by £1, up to a maximum reduction of £30,000 if your income is over £210,000.

The annual allowance for tax relief on pensions is currently set at £40,000. The annual allowance is further reduced for high earners. If your income is in excess of £150,000 you will usually have your allowance tapered. This works by reducing your annual allowance by £1 for every £2 your income exceeds £150,000 up to a maximum reduction of £30,000 if your income is over £210,000.

However, any unused annual allowance can usually be carried forward to the current tax year and added to the current year’s annual allowance. The calculation of the exact amount of unused annual allowance that can be carried forward can be complicated especially if you are subject to the tapered annual allowance.

You can carry forward unused allowance from the three previous tax years. You do not need to report this to HMRC. If you have unused annual allowances from more than one year, you need to use the allowance in order of earliest to most recent. Any remaining balances can be used in future tax years, subject to the usual time limits.

This annual allowance only applies to pension savings made to your UK registered pension schemes, or to overseas schemes where either you or your employer qualifies for UK tax relief. 

Please contact us if you need help to calculate any past, unused pensions relief that you could utilise to reduce your current year's tax bill.

You can claim tax relief for your private pension contributions. The current annual allowance for tax relief on pensions is £40,000. Remember, that there is now just 3 months left in the current tax year in which to maximise the amount of tax relief you can claim by topping up your pension pot.

There is a three-year carry forward rule that allows you to carry forward previous years unclaimed allowances. There is also a lifetime limit for tax relief on pension contributions. The limit is currently £1.055 million.

You can claim tax relief on private pension contributions worth up to 100% of your annual earnings, subject to the overriding limits. Higher rate tax relief is allowed.

This means that if you are:

• A basic rate taxpayer you get 20% pension tax relief
• A higher rate taxpayer you can claim 40% pension tax relief
• An additional rate taxpayer you can claim 45% pension tax relief

The first 20% of tax relief is usually automatically applied by your employer with no further action required if you are a basic-rate taxpayer. If you are a higher rate or additional rate taxpayer, you can claim back any further reliefs on your Self-Assessment tax return.

The Income Tax rates are different in Scotland.

You can claim tax relief for your private pension contributions. The annual allowance for tax relief on pensions is £40,000 for the current tax year. There is also a facility to carry forward any unused amount of your annual allowance from the last three tax years if you have made pension savings in those years. There is also a lifetime limit for tax relief on pension contributions. The current lifetime limit is £1.03 million.

You can obtain tax relief on private pension contributions worth up to 100% of your annual earnings, subject to the overriding limits. Tax relief is allowed at your highest rate of Income Tax paid.

This means that if you are:

• A basic rate taxpayer, you can claim 20% pension tax relief
• A higher rate taxpayer, you can claim 40% pension tax relief
• An additional rate taxpayer, you can claim 45% pension tax relief

The first 20% of tax relief is usually deducted by your employer, with no further action required if you are a basic-rate taxpayer. If you are a higher rate or additional rate taxpayer, you can claim back any further reliefs on your Self-Assessment tax return.

The above applies for claiming tax relief in England, Wales or Northern Ireland. There is an interesting regional difference if you are based in Scotland. If you are a Scottish taxpayer paying Income Tax at the starter rate of 19%, you can still claim tax relief of 20% and are not required to pay back the difference. As with the rest of the UK, basic rate taxpayers in Scotland pay 20% Income Tax and qualify for 20% pension tax relief. There are also three higher rates, an intermediate rate of 21%, a higher rate of 41% and an additional rate of 46% where further tax relief can be claimed.