Red Deck Chair

Case study - how to deal with annual allowance charge

4 weeks ago

Lisa Webster had an interesting case cross her desk recently that highlighted some of the ongoing issues with the tapered annual allowance compounded by auto-enrolment. She looks at how annual allowance charges are reported and the options for payment.

An adviser had contacted me about a new client. The lady in question had a personal pension, and in the last few years had been making personal contributions of £32,000 net/£40,000 gross to use up her annual allowance. However, since 2016/17 (when the tapered annual allowance was introduced), her income hadn’t been below £400,000.

The adviser had to pass on the bad news that she would have been subject to the maximum taper – so her annual allowance in the tax years 2016/17 to 2019/20 was only £10,000. She is also one of the few people that has been made worse off due to the changes to the tapered annual allowance that came in at the start of the 2020/21 tax year. As her income is above £312,000, she has the maximum taper all the way down to £4,000.

Auto-enrolment woes

The news then got worse. It turned out that the client also had a workplace pension that her employer had been paying into for the last four years. This employer had auto-enrolled her and was paying in at the minimum rates – currently 8% – but generously based on her entire salary, not just qualifying earnings. In her case, this made the contributions significant. Her employer is based overseas, and the adviser’s client is their only UK employee, so it is quite possible they didn’t realise they didn’t need to make contributions on all earnings. There is also a strong possibility that they were not aware of the implications for their employee nor had ever heard of the tapered annual allowance.

The result of all this was that, even after using available carry forward, the client was facing a tapered annual allowance charge in the region of £50,000 for the years 2018/19 onwards.

The question then was how to notify HMRC of the charge, and the best way of paying it.

Reporting the charge

Annual allowance charges are usually reported via self-assessment. It is possible to amend previous self-assessment returns up to one year after the deadline – so for the 2019/20 tax year, changes can be made up to 31 January 2022 and for 2020/21 up to 31 January 2023. This can be done online if the original assessment was filed online, or by paper if the original was paper-based. For earlier tax years – so 2018/19 in this case – you must write to HMRC to set out the tax year being corrected, why the original return was wrong, and details of the underpayment of tax. HMRC will then issue an updated tax bill, along with a deadline for payment.

Paying the tax charge

The adviser was interested in scheme pays, and whether this could be used to pay the charge from one or both of the schemes involved.

There are two variants of scheme pays: what HMRC just calls ‘scheme pays’ – but, to avoid confusion, I will call compulsory scheme pays – and voluntary scheme pays.

Compulsory scheme pays

There are strict rules set out by HMRC as to when compulsory scheme pays can be used but, if these are met, then the scheme becomes jointly liable with the member for the charge. As ‘compulsory’ suggests, the scheme doesn’t have a choice about it.

Unfortunately, compulsory scheme pays wasn’t an option in this case. Not only are there deadlines for notifying the scheme (31 July 2021 would be the deadline for 2019/20 tax year), but the annual allowance must have been exceeded in the scheme concerned. For compulsory scheme pays, it is always the £40,000 annual allowance that must have been exceeded, not the tapered annual allowance (or money purchase annual allowance where applicable). This client has never exceeded £40,000 in a single tax year in either scheme alone.

Voluntary scheme pays

The rules for voluntary scheme pays are more relaxed: any annual allowance charge can be paid and technically there are no deadlines. However, if you are going to ask the scheme to pay, it may take longer than paying directly and there could be implications with late payment charges.

Importantly, you can ask any scheme you are a member of to pay it, not just the scheme where the charge arose. But the scheme doesn’t have to offer it and, even when allowed, the liability remains with the member.

If you have agreement from the scheme, then you will need to put the amount the scheme is paying, and the scheme PSTR (pension scheme tax reference), on the additional pages of the self-assessment, or in the letter to HMRC if you are making adjustments for earlier tax years.

This article was previously published by Retirement Planner.

Profile Picture
Lisa Webster

Lisa Webster

Job Title
Senior Technical Consultant

Lisa is an Economics graduate who has been in the financial services industry since 2003. Prior to joining AJ Bell in 2014 she spent nine years working in senior technical and consultancy roles at a major SIPP and SSAS provider. Lisa is part of our Technical Team, responsible for providing regulatory and technical analysis to the business and outside world. She is also a regular speaker at adviser events.

Financial adviser verification

This area of the website is intended for financial advisers and other financial professionals only. If you are a customer of AJ Bell Investcentre, please click ‘Go to the customer area’ below. 

We will remember your preference, so you should only be asked to select the appropriate website once per device.

Scroll to Top