Pensions are a particular area of tax planning that is ever-changing. In 2015, a couple of key announcements were made that will affect pension planning for contractors and freelancers in 2016, including a decrease in the Lifetime Allowance, and, a tapering of the annual pension allowance for high earners.
More recently, there is also anticipation of a further reshuffle of the pension system in the approaching March Budget, that is naturally making pension-savers anxious.
Pension planning apathy can cost you
A recent report by Aviva reveals that from a selection of over 45 year olds, that had not yet reached retirement, 63% said they give little, or zero, importance to pension planning. The reality is that failure to actively plan your pension can result in missed opportunities to save the maximum desired funds for retirement, and result in missed opportunities in terms of tax savings in the “here and now”.
How a cut in the LTA affects you
In the 2015 Budget, a further reduction in the Lifetime Allowance (LTA) was announced, affecting both employer and private pensions.
The LTA is the tax-free level a pension pot can reach within an individual’s lifetime. Currently, it is £1.25 million, already down from £1.5 million not so long ago, however from April 2016 it will be cut further to £1 million.
Practically, this means that withdrawals of a pension after the LTA are subject to tax at 25%, or 55% for lump sums. Many pension investors are considering stopping paying into their pensions for fear of the tax implications.
However, it is a complex decision that requires careful calculations.
Ultimately, it depends on what alternatives there are for you to plan your retirement. Would you gain better returns reinvesting in savings or property, or, would you still be better off continuing your pension and paying the extra tax?
It is essential to also factor in tax implications of other investment solutions too – don’t compare apples and pears!
How a tapered annual allowance affects high earners
The second of the changes to hit pensions in 2015, was the announcement that the annual allowance for tax relief on pensions would be tapered for those earning over £150,000.
The Chancellor announced as part of his “Emergency Budget” in July 2015, that the annual tax-free allowance of £40,000 would reduce by £1 for every £2 over this higher-earning limit.
Effectively this means that those contractors with over £210,000 income per year will receive just £10,000 annual allowance for tax purposes.
In terms of tax relief, this means that a high earner could receive as little as £4,500 in tax relief, compared to a maximum now of £18,000 – a difference of £13,500!
Specialist tax planning for contractors
Are you confused about your options regarding pensions? We can help. AJN Accountants are specialist contractor accountants and can help you plan your retirement in the most tax efficient way.
Send an email for some initial advice – firstname.lastname@example.org
What further changes could be on the horizon?
Currently, tax relief is claimed on investments into a pension fund, yet withdrawals are taxed under income tax, after a 25% tax free amount.
If the speculated changes come to light, investments would instead be taxed on the way into the pension, yet withdrawals would be free of tax.
For one, this means that there would be no entirely tax-free element regarding pensions, compared to 25% now, which many pensioners are already enjoying the benefits of. It also means that there would be essentially two completely different pensions systems running alongside each other.
More will be revealed in the coming weeks and following the Budget.