Money moves: Tax shake-up to test plans to limit

THOSE minded to make the most of the tax-planning opportunities that pensions offer should take note of upcoming changes to the tax treatment of large contributions and a reduction to the total pension value that individuals may create.

Reduction of Annual Allowance

From 6 April, the maximum tax efficient amount that can be paid into pensions– the Annual Allowance - will be reduced from the current £50,000 to £40,000.

This starts to get complicated in that this limit does not necessarily relate to the tax year in which the contribution is made, but to the tax year in which your Pension Input Period (PIP) ends. If you are thinking of making a significant contribution ahead of the end of this tax year in order to maximise tax relief or extract profit tax-efficiently from a business, caution should be exercised. Without careful planning, confusing the tax year with PIPs is a minefield – particularly for investors with more than one pension which may have differing PIPs, or for those with final salary pension entitlement who are unsure what allowance remains available to them.

It is possible that some individuals are contributing now in pension input periods which are set to end in the tax year 2014/15 and are unaware that the contributions are subject to the new limit of £40,000. The consequence of getting it wrong is an income tax charge on the excess, payable by the pension scheme member.

However, plenty of scope exists to maximise contributions through manipulation of PIPs and the ability to carry forward unused Annual Allowance from three years prior to the current tax year. It may, as an example, be possible with the right arrangements put in place and a careful paper trail, to make contributions of up £240,000 into pensions by 5 April.

Making the most of the Annual Allowance and carry-forward rules for those who have very high levels of income, or owners looking to extract large sums from their business, can be very effective tax planning and make a significant improvement to retirement funds.

Reduction of Lifetime Allowance

Also taking effect from 6 April will be the reduction to the Lifetime Allowance, which dictates the maximum pension fund which can be maintained without potentially incurring a tax charge at a later date.

Although the reduction from £1.5m to £1.25m leaves plenty of wriggle-room for most pension savers, a recent Standard Life survey identified that up to 360,000 people will be caught in this trap by the time retirement comes their way. For example, a 55-year old with current pension funds of £700,000 would be caught out at retirement at 65 if their fund growth averages 6 per cent annually, assuming they never paid into a pension again.

Protection of different forms is available depending on the investor’s circumstances and time-horizon until an anticipated retirement date. For those nearing the limit, advice should be sought well ahead of 5 April.