For high earners especially, the tax-efficient limit you can pay into your pension each year is very restricted. The Annual Allowance, as it’s known, is currently capped at a maximum of £40,000. It’s been at this level for the past four years but was previously as high as £225,000, which was obviously much more attractive.
However, for high earners, the situation becomes worse if you receive an income that qualifies you for ‘Tapering’ of the Annual Allowance. Then, the allowance is reduced £1 for every £2 of income you receive above £150,000. Therefore, if you earn £210,000, you would qualify for the minimum Annual Allowance of just £10,000. That could be easily exceeded unintentionally and a tax bill would be on its way to you.
The Lifetime Allowance, the maximum tax-efficient value your pension can be over your lifetime, is currently £1.03 million. Again, easily exceeded over a lifetime of retirement saving, employer contributions and investment growth. Therefore, here are ten ways you can maximise your retirement planning, despite the limits imposed.
1. Identify your needs
First, it’s important to identify your aspirations, plans and realistic length of retirement. This will mean you can plan the level of income you’ll require and have a savings target in mind. Cashflow planning is a brilliant tool for helping you visualise this graphically. It also means you can take in to account the various tax advantages of certain arrangements, investment growth and model potential life events and the effect on your potential income.
2. Utilise Carry Forward
If you were a member of a registered pension scheme in the last three years and did not make full use of your annual allowances, you can carry forward the unused amount. For example, if you have an adjusted income more than £210,000 in this tax year you would have a tapered annual allowance of just £10,000. However, if you didn’t make any contributions in the last three years, your effective annual allowance will be £130,000.
3. Exceed the Lifetime Allowance (LTA)
Depending on your circumstances, simply exceeding the LTA and paying the additional tax may be the most efficient way of saving. This would especially be the case if you are still receiving high employer contributions as part of your remuneration. Charges are:
- 25% of any amount over the LTA taken as regular income
- 55% of any amount over the LTA you take as a lump sum
4. Renegotiate your remuneration
Of course, it may be possible to renegotiate your remuneration package with your employer. Stopping pension contributions when you reach the LTA and taking share equity instead might be attractive. Your share equity, if more than 5% of the business, could also be eligible for Entrepreneur’s Relief which would half the amount of Capital Gains Tax paid when you sell shares.
5. Remain invested during Drawdown
Since Pension Freedoms in 2015, an Annuity isn’t the go-to option for pension income. If you want, you can withdraw your entire pension to spend from age 55. Retirement has also changed, with people tending to work for longer and more flexibly. If you leave your pension invested whilst you draw a flexible income from it, over the long term it is likely to benefit from further investment returns.
6. Utilise other tax-free allowances
As part of your wider financial plan, you should be using your annual £20,000 ISA allowance already. But, just in case you aren’t, as a very flexible tax-free investment opportunity, maximising your ISA contributions are an excellent opportunity to invest and provide income in later life.
7. Explore alternative investments
Introduced in 1995, a VCT is a HMRC approved stock exchange listed company that invests in smaller unlisted companies to help them grow. In 2017/18 £728 million was invested in this way VCTs, as reported by the Association of Investment Companies.
Often higher risk than other investments, VCTs can offer attractive returns but you must invest long-term. Using a VCT as to complement your existing pension savings is a good way to diversify your portfolio, but they also attract some beneficial tax benefits:
- You can claim up to 30% Income Tax relief on up to £200,000 of your VCT investment each year, after keeping shares for at least five years
- Dividend payments from the VCT are also free of Income Tax, unlike pension income
- Any investment return you make is free of Capital Gains Tax
8. Property and Equity Release
Not long ago Equity Release mortgages were somewhat of a last resort because of the ultimate cost. Today, however, that couldn’t be more different. There are many more policies available in what is quickly becoming a growing and competitive market. As house prices have risen, an equity release arrangement may be an excellent way of unlocking valuable equity in your property.
9. Plan your spending and provide a legacy
By prioritising which investments, pensions or assets you spend first in retirement, you may be able to pass more of your wealth to loved ones and avoid Inheritance Tax (IHT). Pensions, for example, can typically be passed to family members completely free of IHT, no matter your estate value.
10. Seek advice
If any of the above interest or excites you, we are here to help! Sovereign is proud to be both Chartered and Independent. If you would like to discuss how you can best plan for your retirement, we offer bespoke arrangements from our expert financial planners.