Adviser > Technical Central > Information & guidance > Budget > The effect on high-income individuals
The effect on high-income individuals
The 2009 Budget restricted tax relief on pension contributions for those earning £150,000 or more a year. The Pre-Budget Report 2009 extended the restriction to those earning £130,000 or more.
Who does it affect?
The definition of a high-income individual depends on ‘relevant income’ during the applicable tax year and the two preceding tax years. Thus some individuals may currently have income below £150,000/£130,000 – in fact they may even be basic rate tax payers – and still qualify as a high-income individual.
All taxable income must be taken into account, including earned income, dividends and salary sacrificed for pension contributions after 22 April (for those caught by the £150,000 limit) or 9 December 2009 (for those caught by the £130,000 limit).
Pension payments made by individuals may be used to reduce relevant income, however the maximum deduction is £20,000. This means in effect that an individual could earn a gross salary of up to £169,999 or £149,999 respectively before being classed as a high-income individual.
What is the result?
The measures introduced a special annual allowance of £20,000(1). Payments which don’t exceed this amount within one tax year aren’t affected.
Any pension payments made by or for high-income individuals, which exceed the special annual allowance and are not otherwise protected, are subject to a special annual allowance charge which is intended to effectively limit tax relief on these payments to the basic rate. This includes employer payments made on their behalf.
How much is the charge?
For the 2009/10 tax year the special annual allowance charge applies at a fixed rate of 20% on the excess payments. It does not adjust to provide net basic rate for each individual.
However, from 6 April 2010, taxable income above £150,000 will be taxed at 50%. From that date, the special annual allowance charge will be set at ‘the appropriate rate’. The appropriate rate depends on the amount of tax relief given on affected pension savings. The rate will be that required to restrict tax relief on those savings to 20%. So, if all the affected savings received tax relief at 50%, the special annual allowance charge would be 30%
If for some reason a high-income individual is not paying higher rate in the tax year that pension payments are made, the special annual allowance charge will still apply which would clearly be highly disadvantageous to the client. This could apply if an individual's income has dropped in the current tax year, or if their pension payments only qualify for marginal rate tax.
In these circumstances it will be even more important to monitor pension payments and consider other investment vehicles for savings above £20,000 per year.
Salary sacrifice
The legislation clearly states that salary sacrificed in exchange for a pension payment will in future still count as income for the purposes of the high income test. In other words unless the arrangement was in place before 22 April 2009 (for the £150,000 limit) or 9 December 2009 (for the £130,000 limit), the salary that is given up is still counted as relevant income.
Interestingly, the rules specifically apply to salary that is sacrificed for pension payments; salary sacrificed for other benefits is not included. According to HMRC, salary sacrifice is an arrangement where an employee gives up the right to cash pay for 'a non-cash benefit'. This could potentially include other non-pension employee benefits such as additional holidays or critical illness insurance or even company cars.
This leaves some potential for high-income individuals to manage their income going forward although care should be taken to ensure the action is not seen as deliberate avoidance.
Turning to another issue for salary sacrifice, we already knew that national insurance contributions were increasing by 0.5% from 6 April 2011. The PBR announced that this increase will now be a 1% increase, bringing the contracted in rate for earnings between the primary earnings threshold & the Upper Earnings Limit (UEL) to 12% for employees and 13.8% for employers. The employee contribution rate on earnings above the UEL which was due to increase from 1% to 1.5% will now increase to 2%. So, from that date salary sacrifice will be even more attractive as the national insurance saving will be higher.
(1) Up to £30,000 where the average of infrequent money purchase contributions exceeds £20,000 – see protecting existing payments.
Next page: Protecting existing payments
Note - The information provided is based on our current understanding of the 2009 Budget, the Pre-Budget Report 2009 and associated documents and may be subject to alteration as a result of changes in legislation or practice.
Published 12 January 2010
Updated 15 March 2010
