Avoiding the Pension Taper Trap: What the Latest Rules Say

Pension tapering impacts your pension annual allowance and actively limits the amount of pension savings that receive tax relief in a given tax year. Tapering could occur if your threshold income is over £200,000 and your adjusted income is more than £260,000. 

It means that for every £2 of adjusted income over the £260,000 limit, your annual allowance decreases by £1, down to a minimum of £10,000. 

Although tapering will only affect high earners, it may have an adverse impact on their ability to invest for a comfortable retirement, leaving more individuals to consider taking more measures to avoid overspending throughout their working lives. 

How Does Pension Tapering Work? 

The annual allowance on pensions for most taxpayers in the UK is £60,000. This is the limit on how much can be contributed to your pensions in a tax year while still benefiting from tax relief. If your contributions surpass this annual allowance, you won’t see tax relief on your pension savings and may have to pay a charge. 

For high earners, pension tapering works to reduce, or taper off, when their income exceeds a certain threshold. This process was introduced as a means of limiting the tax benefits available to additional rate taxpayers. 

Fundamentally, this means that the higher your level of income, the greater your restrictions when it comes to contributions to your pensions. 

It may be more beneficial to explore your alternative investment options instead.

Latest Rules on Pension Tapering

Fortunately for those concerned about the impact of tapering, the government increased the standard annual allowance for tax-efficient pension contributions in April 2023 from £40,000 to £60,000, meaning that the level of tax relief you can access has steadily expanded. 

2023 also saw the adjusted income threshold for tapering climb from £240,000 to £260,000, with the minimum tapered allowance also growing from £4,000 to £10,000. 

The Money Purchase Annual Allowance (MPAA) has also increased to £10,000, helping to add more flexibility for those who are already accessing their pensions while continuing to save. 

This year also saw the introduction of the Pension Schemes Bill, which was introduced in June. The bill focuses on supporting more individuals in planning for their retirement by streamlining the processes associated with managing funds and consolidating different pensions into one pot. 

For earners who are impacted by tapering, the Pension Schemes Bill may help to provide better clarity on your retirement goals, shining a light on how best to invest your income for later in life. 

With handy free services like Money Helper’s Pension Wise, you can gain fresh insights into how tapering thresholds affect your pot to make clear choices about your retirement. 

Calculating Your Tapered Annual Allowance

To figure out if a tapered annual allowance applies to you, you’ll first have to be aware of your threshold and adjusted income. The calculations you make can be particularly complicated if you use a salary sacrifice scheme, the rules of which will change from April 2029.

Fortunately, there are plenty of guides available from the government to assist you with various considerations that could impact your pension. If you’re unsure about your tapered allowance, it may be worth consulting a financial adviser to ensure that your calculations are accurate. 

Your pension provider can provide a statement that covers any key considerations a financial adviser may want to discuss with you, and it’s worth logging into your provider’s online account or contacting them for insights. 

What if I Want To Invest More Than My Pension Allowance? 

If you find yourself facing pension tapering, it may be worth exploring alternative tax-efficient ways of investing your money.

One easy alternative is to invest your money into an Individual Savings Account (ISA) instead, which comes with a separate £20,000 annual allowance. With no tax to pay on earnings in your ISA and the option to continue investing through a Stocks and Shares ISA, this investment strategy can be an effective way to access tax-free benefits. 

Overcoming the Tapering Trap

Pension tapering can be a challenge for high-income earners to overcome, but there are plenty of options available to help you continue benefiting from tax efficiency without losing significant proportions of your income to the taxman. 

By keeping up to date with pension threshold changes and by looking at strategies to improve your tax-free allowances through ISAs, it’s possible to manage your wealth more effectively. 

Although the pension landscape will change in the future, by setting yourself up and managing your contributions today, you can be better prepared for what tomorrow may bring.