HMRC Taxation Regime On Pension Planning Flashcards
How are basic and the new state pensions taxed?
- Both are paid irrespective of retirement income or assets (non-means tested)
- They are paid without tax deducted but are taxable
- Added as if earned income (personal allowance and income tax rates apply)
How are annuties taxed?
Compulsory-purchase annuities
* Purchased as part of a pension arrangement with an employer
* Income from these annuities always taxed as earned income through PAYE system, with the pension provider effectively acting as ‘employer’
Purchase-life annuities
* Individual has chosen to buy either with PCLS or investment capital
* Income from these annuities is treated as ** part return of capital (tax free)** and, in part, interest (which is taxable)
Once the PCLS has been taken, how is further lump sum withdrawals treated?
- treated as earned income
- taxed at individual’s marginal rate of income tax
How is income from state pension taxed?
- Does not have tax deducted at source but is taxable
- Added to the individuals income and taxed accordingly
- Individual’s tax code is adjusted to show benefit is in receipt.
Pension input and the annual allowance
- Pension input period runs in line with the tax year - 6th April - 5th April
- Any contributions above the annual allowance during the pension input period (considering they have no AA to carry over from previous years) is subject to the annual allowance charge (at their highest rate of income tax)
- For those with adjusted incomes, including their and their employers pension contributions above £260,000 - their annual allowance is reduced by £2 for every £1 above this, down to a minim of £10,000.
Contributions over the annual allowance
Contributions over £60,000 without the ability to carry forwards:
- Employer can still claim as a business expense and receive tax relief.
- Employee can still receive tax relief, so long as it does not exceed 100% of their earnings.
However, the tax relief will be cancelled out by the annual allowance charge.
What triggers the MPAA? And what is it?
Money purchase annual allowance - a reduced annual allowance of £10,000
* A reduction in the amount that can be contributed to a DC pension.
Triggered by:
* Taking income from a flexible annuity
* Going into flex-access drawdown
* Taking UFPLS
* Taking PCLS
What factors are used to assess whether the LTA has been exceeded for DC and DB schemes?
For DC schemes:
* Simply the notional value of benefits accrued against the value of LTA (unless protected is £1,073,000)
For DB schemes:
Pre A-day
* The value of benefits being received was multiplied by a factor of 25:1
* Assess this notional sum against the LTA
Post A-day
* The value of benefits being received was multiplied by a factor of 20:1
* Then add any lump sums received.
* Assess this notional sum against the LTA
When was the LTA charge removed? What implication does this have?
- April 2023
- No tax charge on crystalising benefits that exceed the LTA.
- Previously, this was 25% for income taken and 55% for lump sums above the LTA.
Instead, for certain lump sums the individual will be charged their highest rate of income tax if exceeding the LSA.
* 25% of the LTA
* = £268,000 unless protected LTA
What must be checked each time a client wishes to crystallise benefits?
- A check to ensure their LTA and LSA has not been exceeded, less a tax charge may occur.
Tax treatment of registered pension funds
Extremely tax efficient
* No CGT on gains made within the pension fund
* No income tax on income generated by investments
* If any tax has been deducted at source, it can be reclaimed by the fund.
ONLY applied to registered pension funds
Tax treatment of registered pension scheme
death benefits for Defined benefit schemes
LTA is still used to calculate the tax treatment of death benefits from registered pension schemes.
Defined benefit schemes
* Usually provide a lump sum death benefit equal to a set amount or multiple of members salary
* In addition to a scheme pension
Scheme pension is taxable regardless of age at death
Under 75
* Lump sum is tax free so long as it is within the member’s LTA
* Paid with two years of the scheme admin first knew of death
- If after two years, it is paid as the receipent’s income via PAYE, unless paid to a trustee or personal representative then it is 45%
Over 75
* Taxed at marginal rate of income tax via PAYE
* No test against LTA
What is a scheme pension?
Ongoing pension payments made to a beneficiary (usually a spouse, civil partner, or dependent) after the death of a member of the scheme.
* The amount is subject to the schemes rules, but will be a proportion of the members annual benefit
Tax treatment of registered pension scheme
death benefits for Defined contribution schemes
Under 75
* Death benefits paid from uncrystallised funds are tax free so long as:
* Paid within two years of scheme members notification of death
* Value is within the the members lifetime allowance
- After two years, it is taxable at the member’s marginal rate of income tax.
Over 75
* Any income or lump sum is taxed at beneficiaries’ marginal rate of income tax
Tax treatment of pension‑commencement lump
sum (PCLS) benefit from a registered pension
scheme
Registered scheme, post A-day rules, 25% of the value of the member’s pension fund can be taken tax free - PCLS
* Normally to a maximum of the receipient’s available LTA but may be higher with transitional protection
Under DB schemes, more consideration needs to be taken, as taking a PCLS may affect their final benefit amount
* A commutation factor is used to determint this.
Trivial commutation lump sum death benefit taxation
- Pots under £30,000
- Not a crystallisation event
- Taxed as receipent’s income regardless of death
Pension recycling - describe and what conditions does HMRC look at
The withdrawal of tax-free cash that is then reinvested into the member’s pension to gain further tax relief.
HMRC will assess:
* If a greater than usual contribution is made following reciept of PCLS
* If this contribution is made by the member or by someone else, it does not matter
* The recycling was planned
* If the PCLS, plus any other PCLS received in the last 12 months is more than £7,500
* The increase in the annual pension contribution is more than 30% of the PCLS received.
Limit on contribtutions each year and still receive tax relief?
- A relevant UK individual can contribute the greater of £3,600 or 100 per cent of their
earned income (relevant UK earnings) and receive tax relief. - Income from savings, investments, pensions and other non‑earned sources cannot be included.
Tax relief on pension contributions - Personal and stakeholder pension contribtutions
Paid net of basic rate tax
* This is known as relief at source
* Provider reclaims 20% tax back from HMRC which is added to the pension six weeks after the contribution has been made.
* Higher and additional rate taxpayers must complete self-assessment to retrieve the further 20-25% tax relief.
Tax relief on pension contributions - Occupational scheme contributions
Usually paid under the ‘net pay arrangement’
* The employee contribtuion is deducted from gross salary before tax is calculated
* Employee immediately receives maximum amount of tax relief available.
Tax relief on pension contributions - Retirement Annuity Contract
Usually now paid net of basic-rate tax.
However, in some instances, contributions will continue to be paid gross and the individual will need to reclaim tax relief from HMRC.
Tax relief for third party contributors
- Tax relief is limited to 20% at source unless the person for whom the plan is establised is a higher-rate taxpayer.
This means that a higher‑ratetaxpaying parent cannot claim 40 per cent tax relief unless the child is also a higher‑rate taxpayer, and in that case the child would receive the additional relief.
Limits on employer contributions to employee’s pension
- Effectively unlimited
However,
* If claimed as a business expense, must be proportionate to the renumeration of the employee otherwise disallowed.
* Payments that take the employee’s combined total above the annual allowance will lead to an annual allowance charge payable by the employee.
Company directors pay structure and pension issues
- Often, directors pay themselves a small salary (below the personal allowance) and paying the rest via dividents, saving on income tax and NICs
- However, an issue arrises when pension contributions made for the director look disproporinate (because it should be relative to renumeration)
Where an employer makes a very large, non‑regular contribution in a single accounting
period, tax relief may be…
Spread over multiple accounting periods
- the contribution is more than 210 per cent of the contribution paid in the previous
chargeable period; and - the amount paid over and above 110 per cent of the amount paid in the previous
chargeable period is £500,000 or more.
**Individual eligibility for tax relief on pension contributions **
Only ‘relevant UK individuals’ may contribute and receive tax relief:
- Relevant earnings (from employment, trade or profession) in the UK chargeable to income tax for the tat year in which the contribtuion is made.
- Be resident in the Uk during the tax year
- Have been resident in the UK at some point in the five years immediately before the tax year in which the contribution was made and when they became a member of the scheme
- The contributor, or their spouse or civil parter, must have recevied overseas income subject to UK income tax as a crown employee
If they fail any of these requirements, they may still contribute to a scheme, but will not receive tax relief on contributions.
Personal contribution limits
Whichever is greater:
* 100% of earned income or;
* £3600
For those without earned income, including childred, are limited to £3,600 gross.
Non-registered schemes loose valuable tax benefits, which are:
- Members may not take a tax-free PCLS
- no tax relief on contributions into the pension fund
- tax will be due on income received by or gains made by the fund
- Employer contributions will not be able to be claimed as a business expense
Assessing DB benefits against the annual allowance
- Calculate the CETV for the benefits accrued at start of the year and mulitply this by 16
- increase by CPI
- Calculate the CETV for the benefit at the end of the year
- Subtract the beginning value from the end value.
Two occassions in which an annual allowance charge is not liable:
- Does not apply in the year the individual dies
- In the tax year an individual tax takes benefits based on sever ill health (life expectancy is less than 12 months)
Annual allowance carry forward
Any unused annual allowance can be brought forward 3 years so long as:
* The current tax years allowance has been used up
* The individual was a member of a registered pension scheme in the year they are wishing to bring forward.
Assessing deferred DB benefits against the annual allowance
One that remains with a previous employer where benefits have not yet been taken:
Only annual increases in pension rights that are in excess of either what is required by the pension scheme rules that were in place on 10 October 2010 or CPI for the 12‑month period ending with a monththat falls in the pension input period count towards the annual allowance.
Individual protection: IP14
- To be eligible, the individual must have pension benefits of £1.25m or above by April 6 2014
- IP14 gives individuals a lifetime allowance of the value of their pension rights (up to a maximum of £1.5m) on 5 April 2014.
