What are the tax limits to my pension?
The contributions you make to the Local Government Pension Scheme (LGPS) are tax free up to certain limits.
Her Majesty’s Revenue and Customs (HMRC) impose two controls on the amount of pension savings you can make without having to pay extra tax, these are:
- annual allowance (AA)
- lifetime allowance (LTA)
This is in addition to any income tax you pay on your pension once it is in payment.
The AA and LTA impact not just on your Local Government Pension but all other pensions you have or are paying into. The rules surrounding tax and your pensions are complex. You may want to consider financial advice to help look at your individual tax position.
The annual allowance is a limit on the amount that can be contributed to your pension each year, while still receiving tax relief. If your pension savings (from all your pension arrangements) exceed the AA in any one year the excess amount is taxed as income.
The AA applies to your total pension savings for all tax registered pension schemes that you pay into. This means that you will need to obtain the growth in your pension savings from each arrangement you are saving with.
The current AA is £40,000, although this is tapered down if your threshold income is greater than £110,000, and your adjusted income is greater than £150,000.
Most people are not likely to be affected by the AA because the amount their pension savings increase by during the year will be less than £40,000.
If you think your total pension savings have increased by more than the AA, you can look into whether you may have ‘carry forward’ from the previous three years to offset the excess over £40,000. We will write to anyone who has exceeded the AA before 6 October the following year.
Pensions in the LGPS grow in line with your pensionable salary, not your pension contributions, so a significant increase in salary can subsequently have a large effect on your pension growth.
Your pension growth is measured over a ‘pension input period’ (PIP). From 6 April 2016, PIPs for all pension schemes are aligned with the tax year (6 April to 5 April).
Your annual pension growth is calculated by looking at the value of your pension at the start of the PIP (6 April), which is then adjusted by inflation, and comparing this to the value of your pension at the end of the PIP (5 April).
In the LGPS the value of your pension is worked out by multiplying the amount of your annual pension by 16 plus any automatic lump sum you are entitled too. You’ll also need to add any additional voluntary contributions (AVCs) you or your employer has paid during the year.
The example below is for a member of Greater Manchester Pension Fund (GMPF) who is affected by the AA. You can also read our section on how benefits are calculated for further information.
- Name: Mr Jones
- Joined GMPF: 1 April 1986
- Pay increase: 6 April 2019
- Salary at the start of the PIP (06 April 2019): £60,000
- Salary at the end of the PIP (05 April 2020): £65,000
|LGPS Scheme Sections||Start of the PIP 6 April 2019||End of the PIP 5 April 2020|
(benefits built up post 1 April 2014)
|Annual pension: £6,122||Annual pension: £7,448|
|Final salary section|
(benefits built up 1 April 2008 to 31 March 2014)
|Annual pension: £6,000||Annual pension: £6,500|
|Final salary section|
(benefits built up pre 31 March 2008)
|Annual pension: £16,500|
Lump sum: £49,500
|Annual pension: £17,875|
Lump sum: £53,625
|Total benefits||Annual pension: £28,622|
Lump sum £49,500
|Annual pension: £31,823|
Lump sum: £53,625
|Total pension *16 plus lump sum||Pension of (£28,622 * 16) +|
£49,500 = £507,452
|Pension of (£31,823 * 16) + £53,625|
The figures above are for illustrative purposes only. They assume a starting salary for CARE benefits of £60,000 which remains the same till a rise in 2019/20. 0 per cent CPI is used for both CARE accrual and at the start of the PIP.
To work out the total of Mr Jones’ pension growth for annual allowance purposes we take the value from the end of the PIP and then minus the value from the start of the PIP:
£562,793 - £507,452 = £55,341
For the year 2019/20 Mr Jones has exceeded the AA by £15,341 (£55,341 less the annual allowance of £40,000)
As Mr Jones has exceeded the annual allowance we will provide him with a pension savings statement, which will also include details of his previous three years AA usage. Mr Jones will need to determine if he has enough carry forward (unused annual allowance from previous years) to use against the excess, or whether he will have a tax charge.
If you have an AA tax charge that is less than £2,000 you must pay the charge direct to HMRC via your self assessment tax return by 31 January following the year in which your tax charge arose.
If your tax charge is more than £2,000, and providing certain conditions are met, you may be able to elect for GMPF to pay some or all of your tax charge on your behalf and in return we would reduce your LGPS pension accordingly. This is called the scheme pays facility.
If you exceed the AA limit in any year and have a tax charge to pay, you are responsible for reporting this to HMRC on your self assessment tax return. You will need to complete the additional information pages (SA101) of the tax return (relating to ‘Pension savings tax charges) to show the amount by which your total pension input amount exceeds the AA.
If you are using the 'scheme pays' facility to instruct GMPF to pay your tax charge to HMRC on your behalf, you will need to input the pension scheme tax reference into form SA101. For GMPF this is 00329324RG.
If you are using a paper return you will need to ask for the additional information pages (SA101) to report the information.
If you've never completed a tax return you will need to complete a registration form at least 20 days before the deadline to let HMRC know what's changed and to get a tax return.
The deadline for submitting online tax returns is 31 January after the year in which the tax charge has arisen (or 31 October for paper returns).
For further information to help complete a tax return please visit the gov.uk website.
If you exceed the AA limit but do not have a tax charge to pay (because you have enough carry forward to wipe out the amount by which you exceeded), there is no further action required and you do not need to report anything to HMRC.
You can ask us to pay some or all of your annual allowance tax charge on your behalf in return for a permanent reduction to your LGPS pension.
If you have exceeded the standard annual allowance by more than £2000, this is done through mandatory scheme pays.
If you have been affected by the tapered annual allowance, this is done through voluntary scheme pays.
To be able to use this facility, you must make sure that certain conditions are met.
With mandatory scheme pays:
- GMPF will pay the tax charge on your behalf in exchange for a permanent reduction to your Local Government Pension.
- The reduction that we apply to your pension is determined by a set of prescribed factors. These factors vary depending on your age, gender and how close to retirement you are.
- The reduction (called your 'scheme pays pension debit') will increase each year in line with inflation. When you come to retire, the pension debit will be adjusted to reflect the date your pension comes into payment. If you retire before or after your normal pension age, the pension debit will be reduced or increased accordingly.
- Scheme pays pension debits are not applied to contingent survivor benefits and other death related benefits.
If you would like to use the scheme pays facility, please contact us for a quote. Please ensure you tell us how much of your annual allowance charge you want us to pay and the tax year in which the annual allowance charge occurred. We will send you a blank election form (P800) with the quote for you to complete should you wish to go ahead with the election.
Assuming that you are not affected by the tapered AA, your scheme pays election will be made on a mandatory basis. This means that once we receive your signed election form (P800), the election is irrevocable and GMPF are jointly and severally liable with you for the annual allowance charge. This means you cannot change your mind once you return your completed form to us, but you do have up to four years to change the tax charge amount if required.
Voluntary scheme pays relates to those affected by the tapered AA, to find out more on this please read the LGPS guide.
To be able to use voluntary scheme pays, you must make sure that certain conditions are met.
- If you do not wish to use scheme pays on a voluntary basis, you may wish to pay this element of your tax charge direct to HMRC. In this case, you can still use our scheme pays facility to pay the rest of your tax charge on a mandatory basis.
- There is more information available on the HMRC pensions tax manual to explain which element of your tax charge can be paid on a mandatory basis where you are affected by the tapered AA. You may wish for us to pay your entire tax charge on your behalf, but the remainder would need to be paid on a voluntary basis. You will need to work out for yourself how much of your tax charge can be paid on a mandatory and how much on a voluntary basis. We will need to know this if you wish to use the scheme pays facility.
If you would like to use the scheme pays facility, please contact us for a quote. Please ensure you tell us how much of your annual allowance charge you want us to pay on a mandatory basis and how much (if any) on a voluntary basis, as well as the tax year in which the annual allowance charge occurred. We will send you a blank election form with the quote for you to complete should you wish to go ahead with the election.
- The growth in your LGPS benefits (your pension savings or pension input amount) must exceed the AA in the relevant tax year; and
- Your AA tax charge liability for the relevant tax year, as a result of the growth in your LGPS benefits, must be £2,000 or more; and
- The tax charge you elect for us to pay on your behalf must be solely in respect of the growth in your LGPS pension benefits with GMPF; and
- You must complete and return your signed election form (P800) before the deadline of 31 July following the year after your tax charge arose (for example, for a tax charge in respect of the 2019/20 year, the deadline is 31 July 2021); and
- If you are using the scheme pays facility on a voluntary basis, you have read and understood the Important information – voluntary scheme pays below.
Important Information - Voluntary scheme pays
If you decide to use the scheme pays facility on a voluntary basis, it is important that you understand the possible implications of electing to do so. Under voluntary scheme pays, unlike with mandatory scheme pays, GMPF does not have joint liability for the tax charge so this remains with you until we pay the tax charge to HMRC. This means that HMRC's deadline for payment is your normal self assessment deadline (31 January following the year the tax charge arose). However, GMPF cannot guarantee the date of payment we make on your behalf. That means, if we pay your tax charge after the self assessment deadline, you will be liable to pay any late payment penalties and interest that is incurred.
- You are over age 75 and the election was not received before you reached the age of 75; or
- You have transferred out of GMPF or have taken a refund of your pension contributions; or
- You do not have enough pension left to pay the AA charge when the permanent reduction is applied to your benefits.
If you retire on ill health grounds with a tier 1 or tier 2 you may be affected by the AA. This is because the enhancement you get with a tier 1 or tier 2 ill health retirement can mean a significant increase in your benefits.
Some members are protected from the AA rules if they meet HMRC's severe ill health criteria.
Once you have retired you are no longer eligible to use our scheme pay facility on a mandatory basis. Therefore, if you have an AA tax charge payable as a result of the increase to your benefits due to your ill health enhancement and would like to use scheme pays, you need to make sure you elect for this facility before you return your retirement paperwork to us.
If you have transferred pension rights from another scheme into the LGPS, the value of the benefits relating to the transfer does not count towards your pension savings in the LGPS in the year in which the transfer payment is received.
If you are transferring from a scheme similar to the LGPS we will ignore the effect of any actuarial adjustments for AA purposes but will include the effect of any salary increase and revaluation.
If you are transferring final salary benefits (that is, from pre 1 April 2014 membership in the LGPS or GMPF), and have had an increase in pay from your previous employment, the growth in your pension due to the increase in pay will be taken into account in the calculation of your pension savings.
Lifetime Allowance (LTA) is the total value of pension benefits you can have without triggering an excess benefits tax charge.
The LTA limit is currently £1,055,000.
The LTA covers all pension benefits you have in tax registered pension arrangements (including the Local Government Pension Scheme (LGPS)). The limit increases each year in line with consumer price indexing (CPI).
LTA does not include:
- any state pensions
- pension credit from a pension sharing order following divorce or dissolution
- any partner’s or dependant’s pension you may be entitled to.
If the value of your pension benefits when you draw them is more than the LTA or more than any protections you may have; you will have to pay tax on the excess benefits.
For pensions that started to be drawn on or after 6 April 2006:
Annual pension x 20 + Lump sum + AVCs = Capital value
(Factor provided by the Government)
For pensions in payment before 6 April 2006:
Annual pension x 25 = Capital value
(Including pension (Factor provided by the Government) increase)
Most people will not be affected by the LTA but if you have long membership and you are a high earner then you may be at risk of exceeding the LTA when you retire.
Your online My Pension account will show the amount of pension and lump sum (if applicable) payable at your chosen retirement date. By using the calculation above, you can check if you have or are likely to exceed the LTA. The LTA is tested against the pension and lump sum you are going to receive including any added years, additional voluntary contributions or extra pension that you have bought.
If you think you may exceed the LTA, there are actions you can take now to reduce your pension growth and capital value:
If you choose to retire before your normal pension age we will reduce the amount of your pension and lump sum, as it will be paid for longer. This will then also reduce the capital value of your benefits. The minimum age we can pay your pension is age 55. You can get an estimate of how much pension you could receive if you retire early by using the calculator on your My Pension account.
Commute your pension for a bigger lump sum
At retirement you will be given the option to convert up to 25 per cent of your annual pension amount into a tax free lump sum, at a rate of £1 pension into £12 lump sum. Converting annual pension for a larger lump sum can reduce the capital value of your pension benefits. You can find out the maximum tax free lump sum you can take by using the pension calculator on My Pension.
The 50/50 section allows you to pay half the standard contribution rate and build up half your pension benefits; whilst still retaining full life and ill health cover. The 50/50 section slows down your pension growth from the month following your election to move section
If you opt out, you will no longer pay into the LGPS and will stop building up any pension benefits.
Please note, if you opt out of the LGPS with the right to a deferred benefit, you will not be able to link your benefits if you rejoin at a later date. Opting out will impact your life and ill health cover and also any pension payable if you subsequently left employment through redundancy or efficiency.
If you exceed the LTA, you will need to declare this to Her Majesty’s Revenue and Customs (HMRC) and pay a tax charge on the excess amount.
You can pay the charge directly to HMRC yourself, or you can ask us to pay the tax charge for you in return for a permanent reduction to your annual pension (known as scheme pays). The amount your pension is reduced by will depend on the amount by which you exceed the lifetime allowance and the age at which you choose to retire.
Any eligible spouse, civil partner or children’s pensions will not be affected by the reduction to your pension
If the value of your benefits exceeds the lifetime allowance when you are due to retire, we will write and inform you. We will provide you with the option of taking standard retirement benefits and Working out your pension.
You are allowed to draw up to 25 per cent of the total value of your pension benefits, or 25 per cent of your remaining standard lifetime allowance if this is lower. If you have a protected lifetime allowance, you can draw up to 25 per cent of the value of your protected lifetime allowance.
If the option you choose results in a tax charge, we will pay the tax charge to HMRC and make a permanent reduction to your annual pension.
The reduction to your annual pension is calculated by dividing the lifetime allowance tax charge by a factor provided by the Government Actuary's Department. The factor used will be based on your gender and age at retirement.
We recommend that you obtain independent financial advice before making a decision which may affect your future pension benefits. For help choosing an independent financial adviser, visit the Money Advice Service website.