There are two main types of tax that relate to your pension pot – the annual allowance (AA) and the lifetime allowance (LTA).
The AA is the maximum savings that can be made into your pensions each year (by you and/or your employer), without incurring a tax charge. In the NHS scheme, these savings are based on the increase in your accrued pension benefits over the tax year, as adjusted by inflation.
From 6 April 2016, the amount of pension benefits you can accrue each year is £40,000 with any amount above this limit potentially taxed at your marginal rate of income tax, which could be as high as 45%.
Although £40,000 might seem a generous amount many GPs could unknowingly exceed this limit. If a GP has taxable income over £110,000, after deducting pension contributions, they may be subject to a tapered AA that could reduce the available allowance to as little as £10,000.
The taper applies if your adjusted income (your net income, plus employer contributions in that year and any tax relief you received on pension savings) is over £150,000. For every £2 your adjusted income goes over £150,000 your annual allowance for that year reduces by £1, to a minimum of £10,000.
Those in the NHSPS will be notified through their Pensions Saving Statement if they’ve exceeded the standard AA. If you exceed the AA in a given tax year you can offset some or all of this against any unused allowances from the previous three tax years.
The LTA is the total amount you can build up in all your pension plans over your lifetime without incurring a tax charge and is currently set at £1.03m. If the total value of your pensions exceeds the LTA, when you draw benefits you will incur a tax charge on the excess – reducing your retirement income.
To allow you to protect existing pension savings you have against the reduction in the LTA (which was reduced from £1.25m in 2016 to the current rate of £1.03m), HMRC introduced two new forms of LTA protection in April 2016. The first is an individual protection, which gives you a personal LTA equal to the lower of a) the value of your benefits at 5 April 2016 or b) £1.25m. The second is a fixed protection 2016, which gives you a personal LTA of £1.25m.
What is scheme pays?
In October the NHSPS extended the criteria for accepting scheme pays nominations, which means more members can take advantage of the facility when paying tax charges related to exceeding the annual allowance.
This means that if you are a member of the NHSPS and you exceed your annual allowance you can choose not to pay your tax charge yourself to HMRC (usually through your tax return) as has been the case up until now. Instead you can ask the NHS Pension Scheme to pay your annual allowance tax charge. This is effectively a loan which you pay back, with interest, when you retire or transfer out of the scheme. When you retire, the amount you owe will be debited from your NHS pension benefits.
Should I use scheme pays?
We have spoken to a number of GPs impacted by the tapered annual allowance who have been finding it difficult to pay their tax charges, especially as a charge can occur year after year. This new stance on scheme pays will therefore bring welcome relief to many.
However, it won't be the right option for everyone. Scheme pays is effectively a loan and will reduce a member's final retirement income. Some doctors, and especially those with some time to go until retirement, might be better off paying the annual allowance charges through self-assessment if they can afford it. Otherwise they could find themselves with a reduced income in retirement.
If you would want to use scheme pays you need to apply to the NHSPS by 31 July (following the January in which the charge must be declared on your tax return). If you’re planning to retire or will be 75 by this date, you will need to submit an earlier election.
There is a lot to consider before retirement and it is highly advisable to seek financial advice to ensure you have the right plans in place for your life after work.
- Jonathan Halberda is senior Financial Consultant at Wesleyan Financial Services, a specialist financial adviser for GPs. For more information about Wesleyan click here or call 0800 092 1990.
The information contained in this article does not constitute financial advice