2.3 Annual Allowance Rules

The Annual Allowance sets the limit on how much you can contribute to pensions each tax year and still receive tax relief. Exceeding it can lead to unexpected tax charges — especially for higher earners.

What Is the Annual Allowance?

The Annual Allowance is the maximum amount that can be contributed to your pensions each tax year with tax advantages. It includes:

• Your own personal contributions
• Employer contributions
• Any third-party contributions
• Across all registered UK pension schemes

If your total gross contributions exceed your allowance, you may face a pension tax charge.

Standard Allowance (2024/25)

For most people, the Annual Allowance is:

£60,000 per tax year

• You can contribute up to 100% of your UK relevant earnings, capped at this £60,000 limit
• Includes all contributions to Defined Contribution and Defined Benefit schemes

Tapered Annual Allowance (High Earners)

If you have high income, your Annual Allowance may be reduced under tapering rules.

Applies if:

• Threshold Income > £200,000
• (gross income after pension contributions)
• Adjusted Income > £260,000
• (gross income plus pension contributions)

Result:

• For every £2 over £260,000, your allowance reduces by £1
• Minimum allowance is £10,000

Example:

• Adjusted income = £300,000
• £40,000 over limit → Annual Allowance reduces by £20,000
• You now have a £40,000 allowance

If income hits £360,000+, the allowance is fully tapered to £10,000.

⚠️ This is complex — many people unknowingly trigger a tax charge. Specialist advice is strongly recommended for incomes above £200k.

Carry Forward: Use Unused Allowance from Previous Years

If you exceed the Annual Allowance, you may not have to pay a tax charge — if you have unused allowance from the past 3 tax years.

Conditions:

• You must have been a member of a registered pension in each year
• You must use the current year’s allowance first
• You can carry forward up to £60,000 per unused year

Example:

• Current year: contribute £80,000
• If you have £20,000 unused from last year → No charge
• Total available allowance = £60k (current) + £20k (carry forward) = £80k

How DB Pensions Are Valued Against the Allowance

For Defined Benefit (DB) schemes (e.g. final salary or career average), the contribution value is not what’s paid in. Instead, it’s based on the annual pension benefit earned in the year:

Formula (HMRC):

(16 × increase in annual pension) + any separate lump sum

So if your pension entitlement increased by £2,000/year:

16 × £2,000 = £32,000 Annual Allowance usage

If your DB pension grows significantly (due to promotion or long service), you may breach the Annual Allowance even with no personal contributions.

What Happens If You Exceed the Allowance?

If your total contributions exceed the Annual Allowance (after applying carry forward if applicable):

• You’ll face an Annual Allowance charge
• The excess is taxed at your marginal income tax rate
• You can pay the charge personally or request “Scheme Pays” from your pension provider (if eligible)

“Scheme Pays” lets the pension scheme pay the charge from your pot, reducing its value instead of requiring upfront cash

Who Should Pay Close Attention?

• High earners with employer schemes and personal contributions
• Those receiving large employer contributions (e.g. directors)
• Anyone with fast-accruing DB pension rights (public sector, NHS, teachers)
• People making one-off large contributions (e.g. from business profits or bonus)

Summary Table

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Next Chapter Preview:

We’ll explore the Lifetime Allowance — recently abolished, but still important for many high-value pension savers due to legacy protections and transitional rules.