Top earners are being urged to “pile into pensions” before April next year following a surprise move by Kwasi Kwarteng, the chancellor, to ease the tax burden on the nation’s wealthiest.
Savers in the top income tax band of 45 per cent can currently claim tax relief at this level on contributions to a pension, up to an annual limit. However, the surprise move by Kwasi Kwarteng in Friday’s fiscal plan to abolish the 45p tax band from next April means these earners will also see a corresponding reduction in tax relief on their pension contributions.
At the same time, Kwarteng also announced plans to bring forward the planned cut to basic rate income tax, meaning the current 20 per cent rate will be cut to 19 per cent from next April.
“The abolition of the additional rate of income tax (next April) will be very welcome news for those earning above £150,000,” said Steven Cameron, pensions director with Aegon, a pensions provider.
“But it does come with a sting in the tail when it comes to personal contributions to pensions.”
According to Aegon’s calculations, a 45p taxpayer making a pension contribution today of £550 out of take-home pay would see this contribution grow to £1,000 when invested in a pension, due to the impact of tax relief.
However, when the highest marginal rate drops to 40 per cent after April, the same £1,000 in a pension would cost £600 from take-home pay, under Aegon’s calculations.
“Those in a position to do so may want to make additional pension contributions before April 2023 to make sure they benefit from the maximum tax relief,” said Cameron.
Before directing further cash into pension plans, individuals were advised to check their savings allowances, with the highest earners facing extra limits on the amount they can pay into a pension with the benefit of tax relief.
For example, those with “adjusted income” over £240,000 can start to see their £40,000 standard annual allowance gradually reduced to as little as £4,000 for those earning £312,000 or more.
In addition to this “tapered annual allowance”, a Lifetime Allowance restricts how much can be contributed to, or grow, in a pension over a lifetime before tax charges apply with the current limit £1.07mn.
However, unused annual allowances can be carried forward from up to three earlier years.
“Whilst many high earners are affected by caps on annual and lifetime contributions, they are likely to be taking advice on how best to make the most of this very high rate of relief which ends at the end of this financial year,” said Sir Steve Webb, partner with LCP, the actuarial consultants.
“We could see thousands of top earners piling into pensions in the coming months.”