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Annual Allowance

Annual Allowance

The Annual Allowance is designed to measure the value your pension benefits grow in any individual year before any tax charges are applied.

The current value of the increase is limited to £40,000 (reduced from £50,000 with effect from April 2014) per year however a member is allowed to offset any excess with any unused allowance from the previous 3 years.

 

Issues that could affect your potential to exceed the Allowance  

  • If you have received a significant salary increase in the last 18 months and have a significant amount of membership this would increase your benefits on a year to year basis (if 2013/14 tax year was the first full year of your new increased salary).
  • If you received a significant one off payment (including arrears)
  • If you have had a period of reduced pay in the 2012/13 tax year which appears to distort the growth in your salary
  • If you have any other pension benefits to which you have contributed in 2013/14

 

What will the taxation charge be?  

The amount of the tax charge would be charged at (your marginal tax rate) of the excess, this would be payable by the individual through self assessment. However should you have a tax charge of greater than £2,000 you will have the option to elect for ‘Scheme pays’ which requires the tax charge to be paid by the pension fund but for an adjustment to your long term benefits to be applied.

 

How does the calculation work?  

The annual allowance values your pension benefits accrued to the 31 March of the previous year. This includes allowance in CPI to produce an opening value, this is then compared with the new value of your benefits at the end of the next year. For Annual Allowance the HM Treasury pension schemes have been advised to use a multiplier of 16 to calculate the value of the pension benefits.

Example A: Member with 20 years membership was on a salary of £60,000, next year with 21 years service now on a salary of £62,500

Annual Pension

Opening value for AA purposes

Increased in line with CPI

New value of Annual pension

Closing value for AA purposes

Allowance used

£20,000

£320,000

£328,879.75

£22,916.66

£366,666.64

£37,786.89

 £37,786.89 allowance used is £366,666.64 less £328,879.75

Allowance used is within the £40,000 allowance and therefore no charge.

Please note that this example is based on a 1992 scheme member with doubling

 

Example B: Member with 25 years membership was on salary of £65,000 next year with 26 years service now on £70,000.  Again the fixed multiplier of 16 has been used.

Annual Pension

Opening value for AA purposes

Increased in line with CPI

New value of Annual pension

Closing value for AA purposes

Allowance used

£32,500

£520,000

£534,429.59

£37,333.33

£597,333.32

£62,903.73

Ignoring any carried forward allowance Example B would have a tax charge of £9,161.49 (40% of £22,903.73).  If however the member has unused allowance from the 3 previous years this may be used to offset this amount.

 

Further Information  

In addition you may find the attached link to the Inland Revenue website useful:

www.hmrc.gov.uk/pensionschemes/understanding-aa.htm    

Please note that all the information provided is based on our current understanding of the Finance Act. If the pay figure quoted in the covering letter is incorrect this will have a proportionate affect on the resulting figures. 

 

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