KEY LEARNINGS

  • Understand the tax benefits of paying into a pension.
  • Understand the different tax rules that apply as you contribute to your pension savings.
  • Understand the different tax rules that apply when you choose to access your pension savings.
  • Understand how your pension savings are taxed when you die.

Read time

10 mins

Chapter 1

Chapter 1

CONTRIBUTING TO YOUR PENSION

Read time

6 mins

What is Pension Tax Relief?

A key benefit of saving into a pension is that your contributions benefit from tax relief. Pension tax relief means money you would usually pay to the government in tax, instead goes into your pension.

There are various ways you may receive tax relief, and this is dependent on how your pension scheme is set up. If you have a workplace pension, you should check with your employer which method applies you. If you have a personal pension, it will be relief at source.

This could be one of the following:

  • Net pay tax relief – this is where your contribution is deducted from your gross salary before tax is calculated, allowing you to receive tax relief at your highest rate immediately. This means your contributions are not subject to income tax. However, National Insurance contributions (NICs) must be assessed on your gross earnings before deduction of any pension contributions, meaning there is no NICs relief. If you earn less than the Personal Allowance and don’t pay tax, you will not get tax relief if your pension uses net pay. The Government plans to deal with the different treatment between net pay and relief at source from 2024 where the government will pay a top-up to low earners making contributions to pension schemes using net pay arrangements in 2024 to 2025 onwards.
  • Tax relief at source – this is where your pension provider claims basic rate tax from HRMC, which is then paid into your pension after the pension contribution was made. You can get tax relief up to the higher of £3,600 and 100% of earnings. Currently the basic rate in England, Northern Ireland, Wales and Scotland is 20%. Your pension provider claims this 20% tax relief from HMRC. For example, if you pay £80 net, your pension provider will claim the extra £20 from HMRC making a total contribution of £100. If you pay tax at a higher rate, you will be able to reclaim any additional tax relief from HMRC via your self-assessment tax return. If you earn less than the Personal Allowance and don’t pay tax, you will still get tax relief if your pension uses relief at source.
  • If you have a retirement annuity contract that was set up before 1 July 1988, you will normally pay gross contributions to your pension. Your pension provider doesn’t normally claim and add any tax relief to your pension pot, meaning you need to claim any tax relief you’re due – both basic rate and any higher rate relief – from HMRC.

You can find out more about pension tax relief at Tax relief on pension contributions | MoneyHelper

 

What is Salary Exchange?

Salary exchange (also called salary sacrifice) is an arrangement an employer can set up to benefit their employees.

Salary exchange is a contractual agreement between an employer and employee where the employee agrees to have their gross salary reduced by a certain amount. The employer then pays this amount into the employee’s pension as an employer pension contribution.

Because the salary is being exchanged rather than paid directly, neither you nor your employer will pay National Insurance Contributions on the amount exchanged. So you will save money, which you can then choose to reinvest into your pension, or slightly increase your take home pay.

Your employer also chooses how to use the National Insurance savings they make – some employers offer to pay it into your pension or invest in other employee benefits for example.

Watch our short film about salary exchange to get more detail from our retirement expert, Susan.

What is the Annual Allowance?

The annual allowance is the total amount you can save into all your pensions each year, before a tax charge applies. For the 2024/25 tax year, the annual allowance is £60,000.

Both you and your employer contributions count towards the annual allowance. You can choose to pay in more than the £60,000 allowance, however any contributions above this amount will be subject to a tax charge.

Any unused annual allowance can be carried forward for up to 3 years, as long as you were in a UK pension scheme for those 3 years.

 

What is the Tapered Annual Allowance (TAA)?

The tapered annual allowance applies if an individual has 'threshold income' over £200,000 and also 'adjusted income' over £260,000 (2024/25 tax year).

Threshold income is total taxable income from all sources, plus the amount of any new salary sacrifice set up after 8 July 2015, minus the gross amount of any member contributions to relief at source pensions.

Adjusted income is total taxable income plus gross member contributions to net pay pension schemes plus employer pension contributions.

If an individual has threshold income over £200,000 and adjusted income over £260,000, they lose £1 of annual allowance for every £2 of adjusted income above £260,000. The minimum tapered annual allowance is £10,000. (2024/25 tax year.)

 

What is the Money Purchase Annual Allowance (MPAA)?

If you have flexibly accessed a pension, the lower Money Purchase Annual Allowance of £10,000 (2024/25 tax year) applies. This includes:

  • Taking a taxable income from flexi-access drawdown. If you take tax free cash and have not taken an income yet from flexi-access drawdown this will not apply until you do take a taxable income.
  • Taking more than the Government Actuary Department’s maximum if you are in capped drawdown.
  • Taking an Uncrystallised Funds Pension Lump Sum (UFPLS).

Purchasing an annuity or taking all of a pension as a Small Pot lump sum of up to £10,000 does not trigger the MPAA.

For more information on these retirement options, visit our Your retirement options module.

 

What is the Lump Sum Allowance?

The Lump Sum Allowance (LSA) is the total amount of tax-free lump sums that can be paid from all your pension plans. This is currently set at £268,275, but may be higher if you’ve applied to HMRC for certain protections.

 

What is the Lump Sum and Death Benefit Allowance?

The Lump Sum and Death Benefit Allowance (LSDBA) is the total amount of tax-free lump sums that can be paid from all your pension plans, including death and certain other lump sum payments (such as for serious ill-health). The limit is currently set at £1,073,100, but may be higher if you have applied to HMRC for certain protections.

Chapter 2

Chapter 2

ACCESSING YOUR PENSION SAVINGS

Read time

4 mins

You can take your retirement savings once you reach the Normal Minimum Pension Age. This is currently 55 but will increase to 57 from 6 April 2028. You can take your savings earlier if you qualify for ill health or have a protected pension age.

There are a range of different options that you can use when you wish to take your pension savings, which are detailed below. You can use several of these options together if your pension allows this, but it’s important to check your pension as all of these options may not be available and you may need to transfer to another pension to access more flexibility. Please speak to your pension provider for further guidance.

To find out more about your retirement options and the different tax implications that apply to each, visit our Your retirement options module.

 

WHAT HAPPENS WHEN YOU DIE

Uncrystallised benefits (not in drawdown)

If you die under age 75 and benefits are paid within 2 years of your provider being notified of your death, the following options may apply:

  • A lump sum is paid tax free to your nominated beneficiaries up to the Lump Sum Allowances. Any savings help in excess of the Lump Sum Allowances is taxed as income
  • Your nominated beneficiary’s annuity is paid tax free
  • Your nominated beneficiary’s flexi-access drawdown is paid tax free

If you die over age 75 or benefits are not paid within 2 years of your provider being notified of your death, the options for your beneficiaries are:

  • A lump sum is taxed as income if paid to a beneficiary or taxed at 45% if paid to your estate or a trust.
  • Your nominated beneficiary’s annuity is taxed as income
  • Your nominated beneficiary’s flexi-access drawdown is taxed as income when withdrawn

 

Benefits in drawdown

If you die under age 75 and benefits are paid within 2 years of your provider being notified of your death, the options are:

  • A lump sum is paid tax free to your nominated beneficiaries
  • Your nominated beneficiary’s annuity is paid tax free
  • Your nominated beneficiary’s flexi-access drawdown is paid tax free

If you die over age 75 or benefits are not paid within 2 years of your provider being notified of your death, the options for your beneficiaries are:

  • A lump sum is taxed as income if paid to a beneficiary or taxed at 45% if paid to your estate or a trust.
  • Your nominated beneficiary’s annuity is taxed as income
  • Your nominated beneficiary’s flexi-access drawdown is taxed as income when withdrawn

 

It’s important to check with your pension provider what options are available to you.

Tax treatment depends on individual circumstances and tax rules, both of which can change in the future.

This is based on Scottish Widows understanding of the tax position in the 2024/25 tax year.

Scottish Widows Be Money Well is committed to providing information in a way that is accessible and useful for our users. This information, however, is not in any way intended to amount to authority or advice on which reliance should be placed. You should seek professional advice as appropriate and required. Any sites, products or services named in this module are just examples of what's available. Scottish Widows does not endorse the services they provide. The information in this module was last updated on 6th April 2024.

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