Tax on Pensions And Contributions

Following the changes to pensions legislation effective from 6 April 2006, (or A-Day) many of the rules governing tax on pension funds and tax relief on pension contributions are different.

The existing eight separate sets of rules are replaced by one simple set of regulations which apply to all types of pension.

Strict limits on percentage of earnings had always applied that could be paid into pension schemes as tax relief was granted on contributions.

However under the new rules by the HMRC, up to 100% of earnings up to the annual allowance may be paid into pension a scheme and will be exempt from the new annual allowance tax charge.

The annual allowance starts at £215,000 in 2006 and will be increased to £255,000 over five years. Importantly, tax relief will be available on pension contributions up to 100% of earnings up to the annual allowance.

There will however for the first time be an overall limit on the total size of the pension fund imposed. This is referred to as the lifetime allowance or LTA which is set at £1.5 million for 2006/07 tax year, increasing to £1.8 million over the first five years.

Benefits exceeding this limit will be subject to a punitive lifetime allowance tax of 55% so higher earners should always keep a close eye on the values of pension funds.