How might the Tapered Annual Allowance affect you, and what can you do about it?

If you want to save for a comfortable lifestyle in retirement, then pensions can be one of the most useful tools at your disposal. Since they’re highly tax-efficient, you can build your wealth in a more effective way.

Of course, since pensions offer so many valuable benefits, there are caps on how much you can contribute to them. One of the most important is the Annual Allowance, which is how much you can put into your pot in any given tax year without triggering a tax charge.

But one thing that you may not know is that the amount high earners can tax-efficiently contribute to their pension can fall if your income exceeds certain thresholds. This is known as the “Tapered Annual Allowance”.

Read on to find out how this could affect you, as well as what you can do about it when saving for your retirement.

Tax relief can be a valuable way to build your pension wealth

One of the biggest benefits of building your retirement wealth through a pension is that you can benefit from tax relief. Essentially, when you make a pension contribution, some of the money that you would have paid in tax is transferred into your pot instead.

The amount you can receive typically depends on the rate of Income Tax you pay, meaning that if you’re:

  • A basic-rate taxpayer, you’ll receive 20% tax relief on your contributions
  • A higher-rate taxpayer, you’ll receive 40% tax relief on your contributions
  • An additional-rate taxpayer, you’ll receive 45% tax relief on your contributions.

In 2022/23, the amount you can put into your pension each tax year (6 April to 5 April) and still benefit from tax relief stands at £40,000.

That being said, if your “threshold income” is more than £200,000 or your “adjusted income” is more than £240,000 then you may be subject to the Tapered Annual Allowance.

Before we explore what that means, here’s a quick explanation of those two pieces of jargon:

  • Threshold income – This is your annual income before tax, minus any personal pension contributions and ignoring any employer contributions.
  • Adjusted income – This is all the income that you are taxed on, and can include dividends, savings interest, and rental income as well as the value of your own and employer pension contributions.

One important point to note is that you’ll only be subject to the Tapered Annual Allowance if both your threshold and adjusted incomes exceed the limits.

The Tapered Annual Allowance limits the amount that you can benefit from tax relief

To put it simply, the Tapered Annual Allowance limits the amount that you can contribute towards your pension in a tax-efficient way.

If your income exceeds both the threshold and adjusted income limits then, for every £2 you exceed the adjusted income threshold, your allowance will be reduced by £1.

So, for example, if your adjusted income was £260,000 each year, you would be £20,000 over the limit. This means that your Annual Allowance would be reduced by £10,000, down from £40,000 to £30,000.

Your Annual Allowance can be reduced down to a minimum of £4,000. That means, if your adjusted income is £312,000 or more, you will be affected by the full force of the Tapered Annual Allowance.

Since pensions are one of the most tax-efficient ways to build wealth for retirement, this reduction can make it much more difficult to save effectively.

Working with a planner can help you to build your wealth for retirement more effectively

If you want to be able to build wealth for retirement in the most effective way, seeking professional advice can really benefit you. Working with a financial planner can help you to manage your money to grow it in the most effective way.

For example, if you want to limit the impact of the Tapered Annual Allowance, you have three main options.

The first is to make the most of any unused Annual Allowance that you have remaining from the three previous tax years. Known as “carry forward”, this can help to maximise the amount that you can contribute to your pension in a tax-efficient way.

On top of this, you may also be able to contribute to a relief at source pension, which can reduce your threshold income. Potentially, this can help to keep you under the limit, meaning that you can negate the issue of tapering.

Finally, you may want to consider other tax-efficient investments, such as ISAs. While you don’t benefit from tax relief on your contributions, interest or returns made by an ISA are free of Income Tax and Capital Gains Tax (CGT).

Of course, tax rules can often be confusing, which is why working with a financial planner can offer you invaluable peace of mind.

Get in touch

If you want to minimise the impact that the Tapered Annual Allowance could have on your future plans, we can help.

Email or call 01204 300010 to find out more about how we could help you.

Please note:

The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor.


Be the first to read our content by getting it straight to your inbox. Sign up today!

    More stories

    28 Jun 2022

    How can Business Asset Disposal Relief be useful for business owners?

    Read more

    28 Jun 2022

    How have our financial lives changed over the Queen’s reign?

    Read more