Pension Tax Relief, Limitations, and the Carry Forward Rule
Pensions are one of those rare things that everybody in the UK – and most of the world – is eligible to receive. Beyond that fact, there are several things each person needs to be aware of at every stage of their pension journey, from thinking about saving to drawing it out for the first time. Can you make the money work for you? How much will you receive? Can you really live on what the government sees fit to give to you?
In most of these questions (and their answers), the idea of limitations plays a role. While you can save as much as you like for retirement, there’s no getting away from the fact that, to qualify for government tax relief, you’ll have to restrict yourself to no more than 100% of your annual salary in pension payments, which cannot exceed £40,000/year. Why? Tax relief costs the government a lot of money.
Tax relief on pensions is scaled according to tax brackets, whether that’s basic-rate, higher-rate, or additional rate. This basically means that you’ll either receive 20%, 40%, or 45% back on whatever you pay in. As far as incentives for savings go, it’s not bad – but the downside of the government’s involvement is that you’ll be charged a fee if you exceed your annual allowance.
Advice on claiming tax relief is available in many places online, but it’s important to be aware of how your pension provider handles your contributions. For instance, SIPPs or Self-Invested Personal Pensions are topped up with tax relief when the provider requests the funds directly from the government. This process can take up to three months to complete, however.
SIPPs are largely focused on making investments to improve the amount of money pension receivers have available to them when the time to retire rolls around. There’s an obvious element of risk involved with this kind of product, though, so they require special consideration when deciding what you invest in, whether this is stocks, ETFs, investment trusts and so on.
An obvious question here is, what if you don’t reach your annual allowance? Inevitably, not all of us will be capable of saving $40,000 each and every year. However, if your circumstances improve and you suddenly find yourself with a surplus of funds, you can make contributions in excess of the maximum amount. Several quite stringent rules apply, which may or may not make extra payments undesirable.