The Tapered Annual Allowance

What is the Tapered Annual Allowance?

The Tapered Annual Allowance rules came into force on 6 April 2016 to limit the amount of tax relief high earners could get on their pension contributions. The rules changed from 6 April 2023 and this guide will cover the current position. 

To obtain more information on how the taper worked between 2016/17 and 2022/23, please see the HMRC Pensions Tax Manual. 

For tax year 2023-24 onwards the tapered annual allowance will apply to an individual if: 

• their Threshold Income is more than £200,000, and  
• their Adjusted income is more than £260,000 

Threshold and adjusted income will be described further below.

If the individuals’ threshold income is not more than £200,000 there is no need to calculate the amount of their adjusted income as the tapered annual allowance cannot apply.  

The taper works by reducing the annual allowance by £1 for every £2 of adjusted income above the ‘adjusted income’ limit of £260,000. The reduction in the annual allowance is subject to a minimum annual allowance of £10,000.  So, those with an adjusted income of £360,000 or more in a tax year will have a £10,000 annual allowance for that tax year.

PTM057200 - Annual allowance: tapered annual allowance has examples of calculating the tapered annual allowance.

What is Threshold and Adjusted Income?

Threshold Income

An individual’s threshold income is found by taking the following steps:

1. Start with the individual’s net income.
2. ADD the amount that would have been employment income but for the operation of a relevant salary sacrifice arrangement made after 8 July 2015.
3. ADD The amount of that would have been employment income but for the operation of a relevant flexible remuneration arrangement made after 8 July 2015.
4. DEDUCT The gross amount of member contributions paid in the tax year using relief at source.  That is the amount physically paid to the pension scheme plus the amount of basic rate relief claimable by the scheme administrator.
5. DEDUCT The amount of any lump sum death benefit taxable as pension income of the recipient.

Please refer to PTM057100 for more information on what comprises net income and salary sacrifice arrangements.

Please refer to PTM057200 which has an example of calculating threshold income.

Adjusted Income

An individual’s adjusted income is found by taking the following steps:

1. Start with the individual’s net income.
2. ADD the amount of any relief given under section 193(4) - claim for excess relief under a net pay arrangement - or 194(1) Finance Act 2004 – relief on making a claim. Tax relief is given only when an individual claims it from HMRC.  
3. ADD the amount of member contributions paid via the net pay arrangement or with transitional corresponding relief.  Full tax relief will have been given in respect of these contributions by reducing the amount of the individual’s employment income chargeable to tax.
4. ADD an amount equal to the individual’s total pension input amount for the year minus the amount of member contributions paid in the tax year
5. DEDUCT the amount of any lump sum death benefit taxable as pension income of the recipient.

Please refer to PTM057100 for more information on what comprises net income and salary sacrifice arrangements.

Please refer to PTM057200  which has an example of calculating adjusted income.

Please note that SS&C Hubwise are not financial advisers or accountants. As such we will not calculate a members adjusted annual allowance and we will rely on information supplied when carrying out any corrections required following the payment of contributions

Annual Allowance Reduction:

As stated previously the annual allowance is reduced by £1 for every £2 of adjusted income above the ‘adjusted income’ limit of £260,000, the table below shows the reduction assuming the full AA of £60,000 is available:

If the amount of the reduction is not a multiple of £1 the tapered annual allowance is reduced to the nearest multiple of £1.  In practice, most people’s incomes will not be round £000s. For example, if someone's adjusted income is £277,595 the reduction in annual allowance would be £8797.50. The Tapered Annual Allowance would then be £51,202.50 but this would be rounded down to £51,202

Anti-avoidance of the tapered allowance:

Anti-avoidance rules were put in place to stop people entering into a salary exchange or flexible remuneration arrangement after 8 July 2015 so they could receive additional pension contributions, but reduce their adjusted or threshold income.

The anti-avoidance rules apply if:

• it's reasonable to assume that the main purpose, or one of the main purposes, is to reduce the amount of their reduction under the tapered annual allowance for the current tax year, or two or more tax years which include the current tax year;
• they involve reducing adjusted income or threshold income for the tax year (or both);
• they involve any of the reductions above, being cancelled out by an increase in the adjusted income, or threshold income, for a different tax year

If the anti-avoidance rules apply, the income used to calculate the reduction to the annual allowance for that tax year is the income before any adjustments were made.

Please refer to an accountant for any further information on the calculations of the tapered allowance.

What happens if the member exceeds the reduced annual allowance?

If the member is affected by the tapered annual allowance and the contributions to the pension/s exceed their reduced annual allowance, first check if the member can use carry forward to reduce or remove any excess.

It is possible that the member’s income could drop below the threshold income, which could restore the standard annual allowance for that tax year.

If there’s still an excess amount after carrying forward, the member will face a tax charge on this amount. The amount will be added to their income and will be subject to Income Tax at their highest marginal rate.

The charge is normally declared and paid through the Income Tax self-assessment process, although it could be deducted directly from the member’s pension savings if certain conditions are met. Please see the Scheme pays article.

The TPA and the Money Purchase Annal Allowance (MPAA)

Where a member is subject to the MPAA provisions because they have ‘flexibly accessed’ pension benefits since 6 April 2015, and they are also subject to the taper provisions, the taper is applied to their alternative annual allowance amount. The alternative annual allowance amount is the standard annual allowance less the MPAA.

This means that where someone is subject to the maximum taper provisions, their alternative annual allowance for defined benefit pension savings will be £0, since the minimum annual allowance of £10,000 less the MPAA, which is currently £10,000, leaves nothing. They would still be able to use carry forward for any unused defined benefit pension savings from the previous three years.