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The Money Purchase Annual Allowance (MPAA) was introduced in 2015 as part of Government reforms to pensions known as ‘Pension Freedoms’. The purpose being to limit the amount of tax relief individuals can claim on pension contributions once they have started withdrawing benefits from pensions.
As an incentive, the Government provide tax relief when we contribute into a registered pension, and this is restricted to the higher of £3,600 or 100% of your earnings to a maximum of £40,000 per annum (the Annual Allowance). Note the limit can be lower for individuals with income exceeding £240,000pa, known as the Tapered Annual Allowance, which can reduce the allowance to £4,000 for anyone earning above £312,000 per annum.
Depending on how you elect to withdraw your pension benefits (see below), the MPAA applies and significantly reduces the allowance available. Initially the MPAA was set at £10,000 per annum but reduced to £4,000 in April 2017.
What triggers the Money Purchase Annual Allowance?
The allowance will only apply to individuals aged 55 or over, taking their income from a Defined Contribution pension through a flexi-access drawdown plan or withdrawing the pension fund in full as a lump sum (noting this can be as one-off payment or series of withdrawals).
There are a wide number of options available to consumers when accessing pension funds, and often it will be beneficial to seek advice to ensure you take the correct option(s) to suit your requirements both now and for the future. The table below outlines the withdrawal options available and whether the MPAA applies:
You should note that the MPAA does not apply to Defined Benefit schemes (also known as final salary pensions).
What happens if you exceed the Money Purchase Allowance?
Should the MPAA apply to you, any contributions exceeding £4,000 per annum will be subject to a tax charge. This will apply to contributions you have paid personally plus any contributions from your employer or other third party (where relevant). Care should therefore be taken if you elect to withdrawal all or part of your pension and continue to be a member of your workplace pension scheme into which you and your employer contribute.
As an example, total contributions paid into a pension of £10,000 per annum results in the MPAA being breached by £6,000. The excess contributions will be taxed at the individual’s marginal rate of income tax which ranges from 20% to 45% depending on the respective tax status.
If you have triggered the MPAA, your pension provider will notify you and it is your responsibility to notify any Defined Contribution pension provider(s) into which you, your employer or any other third party contribute into on your behalf. A deadline of 91 days applies to notify the provider(s) or you risk a fine from HMRC.
Complex Rules to Consider
Pension allowances can be complicated and action you innocently take may have as adverse impact on your finances and create tax charges. It is important you do your research before taking benefits and seek advice where needed to ensure you are making informed decisions on the best course of action to protect your best interests. Ultimately, you have saved into your pension(s) for many years to create benefits your retirement, you do not want to undo this by making ill-informed decisions at a critical stage.
The content contained herein is for informational purposes only, you should not construe any such information or other material as legal, tax, investment, financial, or any other advice.
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