Members of the NHS Pension Scheme could receive a tax bill if their pension savings exceed limits set by HM Revenue and Customs (HMRC). These limits are known as the annual allowance, which is calculated each year, and the lifetime allowance, which is calculated based on overall pension savings.
This page contains the following information:
What is the annual allowance?
The annual allowance is the amount of pension savings an individual can make in one year before receiving a tax charge. The standard annual allowance limit has been set at £40,000 since 6 April 2014. Employees may be subject to a lower tapered annual allowance, depending on their taxable income.
If an individual’s pension savings are more than the annual allowance (in one scheme year), they will receive a tax charge on the additional amount. The tax rate charged will reflect the individual's marginal tax rate.
It is possible to carry forward any unused annual allowance, provided the individual was a member of a qualifying pension scheme, at some time during all of the three previous tax years. An individual can carry forward unused annual allowances for a maximum of three years.
Our quick guide sets out the options available to members that receive an annual allowance tax charge.
Tapered annual allowance
The tapered annual allowance reduces tax relief for higher earners. From 6 April 2020, the taper will apply to those with a threshold income (taxable income including earnings from all employment and income from other sources such as rental properties, investments and pensions) of over £200,000 and adjusted income (threshold income plus the value of pension savings) of over £240,000.
Both thresholds have been increased by £90,000 from the previous values of £110,000 and £150,000 respectively.
The rate of reduction in the annual allowance (from the current maximum of £40,000) is by £1 for every £2 that the adjusted income exceeds £240,000. The reduction is applied up to a minimum annual allowance of £4,000 once adjusted income reaches £312,000. This means an individual's tapered annual allowance will be between £40,000 and £4,000.
Benefits are tested against the tapered annual allowance by applying a factor of 16 to the increase in the benefit (the pension input amount) over the year.
What is scheme pays?
Scheme pays allows members to ask the NHS Pension Scheme to pay their annual allowance tax charge to HMRC on their behalf. In return, the member’s benefits in retirement are reduced by a corresponding amount. Scheme pays may be attractive to staff who don’t have the funds available to pay their annual allowance tax charge upfront.
Scheme pays is available to all members of the scheme who breach the annual allowance and incur a tax charge, including:
- high earners who are subject to a lower, tapered annual allowance
- employees who incur a tax charge below £2,000.
Employees must notify NHS Pensions of their intention to use scheme pays before the relevant annual deadline for each tax year:
||31 July 2020
||31 July 2021
||31 July 2022
||31 July 2023
Members planning to use scheme pays for a tax charge relating to the 2018/19 tax year must submit their request to NHS Pensions before by 31 July 2020. The scheme pays election notice form is available to download from the NHS Pensions website
NHS England and NHS Improvement announced in November 2019 that they will cover the cost of annual allowance charges in 2019/20 for members in active clinical roles. Eligible members should use scheme pays to pay their annual allowance charge for 2019/20 and their employer will reimburse them for the corresponding reduction in their benefits. Employers in turn will then be compensated by the government, making this arrangement cost-neutral to employers. Please see the NHS England and NHS Improvement web pages for further information, including FAQs for employers.
What is the lifetime allowance?
The lifetime allowance is the total amount that an individual can have in all their pension savings, during their lifetime, without incurring a tax charge. The lifetime allowance limit is £1,055,000 for the 2019/20 tax year and will be increased in line with the consumer price index (CPI) to £1,073,100 from 6 April 2020.
If an individual’s total pension savings exceed the lifetime allowance, a tax charge may be incurred on any benefits in excess of the allowance. Any lump sum taken will be taxed at 55 per cent and pension will be taxed at 25 per cent.
NHS Pensions will deduct any lifetime allowance tax charges from the member's pension before it is paid.
Implications for members
Staff need to be aware of their total pension savings. They need to consider their personal circumstances and how they would like to manage their pension savings, including actions they may wish to take in relation to annual and lifetime allowance limits.
Recent changes to the annual allowance taper thresholds have reduced the number of NHS staff affected by the taper. However, many higher earners may still be impacted by annual allowance at the standard £40,000 limit.
NHS Pensions has an annual allowance web page and a lifetime allowance web page with further information and frequently asked questions. It also provides fact sheets on both annual and lifetime allowances on its tax information web page.
HMRC has two annual allowance calculators on its website which give an indication of whether an individual may be likely to breach the annual allowance limit in any one year.