Pensions taxation

What is your Annual Allowance (AA)?

When you pay into the Local Government Pension Scheme (LGPS) you get tax relief on your contributions; that means your pension contributions are taken from your pay before it's assessed to see how much tax you will pay. This means if you pay into the scheme you pay less tax, but there is a limit to how much your pension can grow in a year before HMRC puts a stop to this tax relief. This limit is called the annual allowance and is currently set at £60,000 for most members. This is the maximum amount your pension benefits can increase by over a year in all of your pension schemes (including AVCs and any personal pension plans you might have).

It's a common misconception that the £60,000 limit is connected to either your salary or your pension contributions paid into the LGPS. The £60,000 limit is arrived at using a Government Actuary's Department formula (see below).

This short video will help you understand AA and any associated tax implications:

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Video Transcript

Pensions made simple

How is it calculated in the LGPS?

The amount of your AA you have used in a given year is called your Pension Input Amount (PIA). ERPF calculate this each year after we send out your Annual Benefit Statement (ABS), and if you have exceeded the standard AA of £60,000 we will send you a Pension Savings Statement.

The calculation works out the change in the value of your ERPF pension benefits over the year. This is done by:

Multiplying the growth in the value of your pension by 16 (a factor determined by the Government Actuary’s Department)
Adding on the growth of any automatic lump sum you might be entitled to with your pension
Adding on any AVCs that you or your employer have paid in during the year.

The calculation is carried out for the beginning of the financial year (6 April), and this is increased to account for the cost of living. The calculation is then carried out for the end of the financial year (5 April), and the difference between the end of the year and the beginning is your Pension Input Amount.

The example below demonstrates how a moderate increase in pension benefits can easily cause you to exceed the standard AA of £60,000. The main reason this happens is if you have had a promotion with a pay rise and have a significant amount of pre-April 2014 scheme membership, as the benefits for this are connected to your salary.

Example 1:

Benefits at the start of the year

Pension - £10,000 + 1% CPI (cost of living increase) = £10,100

Lump Sum - £4,000 + 1% CPI (cost of living increase) = £4,040

Benefits at the end of the year

Pension - £14,000

Lump Sum - £5,500

AVCs paid - £1,200

Differences

Pension - £14,000 - £10,100 = £3,900

Lump Sum - £5,500 - £4,040 = £1,460

Pension Input Amount (PIA)

(£3900 x 16) + £1460 + £1200 = £65,060

The amount of the standard AA used up = £65,060 (+ any private pension contributions).

Why can my Pension Input Amount fluctuate?

There are many reasons why the PIA can fluctuate. The main reasons are as follows:

If your pay increases then your pension and lump sum increase, meaning the growth is greater. When a member’s pay remains consistent the PIA will fluctuate less
Inflation forms part of the calculation and this is usually different year on year. When inflation is high your growth is less and when inflation is low your growth will be more
If you decide to pay Additional Voluntary Contributions or amend the AVC payments. AVCs are added into the calculations so the more you pay, the greater your PIA.

ERPF will always work out your PIA after the financial year end and whenever you exceed your AA limit, will write to you and let you know. You will be responsible for adding on any growth in the value of other pension savings you might have. It is worth noting that you will be unaware of the infringement until it has already happened.

What if you exceed your annual allowance?

If you exceed your annual allowance limit that means your pension savings have grown by more than £60,000 over the course of the year, which is a nice problem to have, but it also means you may have to pay an Annual Allowance Charge (AAC). This is worked out in the same way as your income tax, so anything over the limit is taxed at the same rate as your salary.

Fortunately, you can carry forward and apply any unused allowances from the previous three years to offset the excess, so if you have a big jump one year, it may be possible to avoid a charge completely (or at least reduce it).

Important Information

It is important to note that your calculated excess must include the effect of tapering (if this applies to you, see below), and any other pension benefits that you are accruing outside the ERPF. If you do exceed the AA (after unused allowances are applied), it is your responsibility to calculate the tax payable, notify HMRC via your self-assessment and ensure that tax charge is paid.

Paying your Annual Allowance Charge (AAC)

Whilst having to pay tax on your pension isn’t ideal, if you have received an AAC it’s because the value of your LGPS benefits has significantly increased, which leaves you financially better off overall. The following information will help you understand how to deal with the charge.

If you owe less than £2000:

If your annual allowance charge is less than £2000, you must pay it directly to HMRC as part of a self-assessment tax return. The deadline for this is 31 January (the following year).

If you owe more than £2000:

If your annual allowance charge is more than £2000 you can pay it directly to HMRC as part of a self-assessment tax return, or ask ERPF to pay it on your behalf through our Scheme Pays facility.

What is Scheme Pays?

Scheme Pays is a way of paying some or all of your annual allowance charges out of your pension savings. Rather than asking you to pay HMRC directly, we make the payment on your behalf and reduce your pension to cover the cost.

If you use the Scheme Pays facility both you and the ERPF are jointly liable for meeting HMRC's payment deadline of 31 January (the year after the tax charge).

If you want to use Scheme Pays, you will need to complete the form supplied along with your Pension Savings Statement.

What is a tapered annual allowance?

For most people the annual allowance is £60,000, but for high earners the limit is reduced (tapered) according to how much they earn. If your ‘threshold income’ is over £200,000 or your ‘adjusted income’ is more than £260,000, your annual allowance will be less than £60,000.

‘Threshold income’ = Total Income – pension contributions – death benefits from other pension schemes.

‘Adjusted income’ = Total income + pension growth/PIA not pension contributions – any death benefits.

The higher your earnings the lower your annual allowance. For every £2 over £260,000 that you earn, your annual allowance is reduced by £1 (to a minimum of £10,000).

Tapered annual allowance

Total adjusted income	Annual allowance
£260,000	£60,000
£270,000	£55,000
£280,000	£50,000
£290,000	£45,000
£360,000	£10,000

Unfortunately, as your pension administrators, we are not regulated to offer tax advice, which means we are limited in the support we can provide. The ERPF can only provide information regarding your ERPF benefits. If you require any other information you should seek specialist independent tax advice from a qualified tax adviser (ideally with experience in public sector pension schemes) and they can assess the correct level of any tax charge.

Does ill health retirement affect your annual allowance?

If you're forced to retire early on ill health grounds, you may be able to claim a full pension without any reductions (known as a tier 1 or tier 2 pension). These enhanced benefits can sometimes lead to annual allowance charges in your final year of employment - but there are exemptions if you meet HMRC's severe ill health criteria. For more information, visit the GOV.UK website.

Does transferring your pension impact your annual allowance?

When you transfer in to the LGPS it can have an impact on your annual allowance, particularly if you have had a salary increase when moving jobs. In that first year in the LGPS your PIA calculation:

Will not include the value of any transferred pension benefits
Will not include any actuarial adjustments
Will include the effect of a salary increase
Will include any increase in final salary benefits.

Transferring from other LGPS funds or linking LGPS membership

If you transfer service from another LGPS fund this will be treated as the same pension arrangement and your unused allowance and salary links will be carried forward.

Your pension savings statement

If you receive a letter from us which includes your Pensions Savings statement, it’s because you’re over your limit or very close. Please read the contents carefully, as it will outline exactly where you’re up to and what, if anything, you need to pay.

What to do next?

We understand that these types of letters can seem complex. Unfortunately, as your pension administrators, we are not regulated to offer tax advice, which means we are limited in the support we can provide.

We can answer questions about the figures on your statement or the Scheme Pays facility. We can also check your records if you think you have exceeded your annual allowance and haven't received a letter. But if you do need advice on your personal tax situation, you must speak to a professional adviser.

Where to get tax advice?

If you don’t have a financial adviser or a professional tax adviser, websites such as www.unbiased.co.uk may be able to help you find a suitable candidate. Personal recommendations are also worth considering. Alternatively, the links below include up-to-date information that you might find useful.

Local Government Association (LGA)

LGPS - Tax (external website)

HM Revenue & Customs website

Pension Wise through Money Helper (Money and Pensions Service)

Money Helper

Link to quick check tool: LGPS Member - Quick check tool

Where can I get more information?

Please watch the Your lifetime allowance video courtesy of the LGPSMember.org team below:

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Lump Sum Limits

Two lump sum limits were introduced from 6 April 2024. If the total of all lump sums you take from UK pensions is more than one of these limits, you will have to pay extra tax. Tax on any excess is charged at your marginal rate.

In the LGPS, you can generally take up to 25% of the value of your benefits as a lump sum. Most members will not be affected because the maximum lump sum they can take is much lower than the limits. If you have built up a large pension in the LGPS or a different scheme, the new limits may affect you.

Lump Sum Allowance

The Lump Sum Allowance (LSA) is £268,275. It limits the amount of tax-free cash you can take from your pension. ERPF must check your LSA when you take payment of a lump sum.

When it is time to take your pension benefits into payment, ERPF will ask you about pension benefits that have already been paid to you from any pension schemes. It is important you provide this information so we can check how much tax-free lump sum can be paid from your LGPS pension.

Lump Sum and Death Benefit Allowance

The Lump Sum and Death Benefit Allowance (LSDBA) is £1,073,100. ERPF must check this allowance when you take payment of a lump sum and your personal representatives will do this check when a death grant is paid.

Transitional Protection

If you took payment of a pension before 6 April 2024, this will have used up some of your LSA and LSDBA. ERPF will work out how much of your allowances were used up from the information you provide on your Previous Pension Benefits Declaration Form at retirement. Under HMRC rules, ERPF must assume you took the maximum lump sum allowed each time you started to receive pension benefits.

There is a process for members who took a pension or reached age 75 before 6 April 2024, if they did not take the maximum tax-free lump sum available at the time. They can apply for a Transitional Tax Free Amount Certificate (TTFAC).

If you think you may be eligible to apply for a TTFAC, please contact ERPF using erpf@eastriding.gov.uk.

Lifetime Allowance Protections

If you hold a valid lifetime allowance protection, this may allow you to take a larger tax-free lump sum. Please send a copy of your protection certificate to ERPF:

ERPF
Council Offices
Church Street
Goole
DN14 5BG

or using erpf@eastriding.gov.uk.

You may still be able to apply to protect your lifetime allowance by applying to HMRC for Fixed or Individual Protection 2016. For more information, visit HMRC - Protect your pension lifetime allowance

For more information about the new lump sum allowances, visit LGPS Member - Tax.