Annual allowance tax charge / Scheme Pays questions

Workerbee999

OH is subject to a hefty annual allowance tax charge for 22/23, mainly driven by inflation protection in his DB scheme which has caused an unexpectedly large pension input amount due to the sudden increases in inflation (although the protection is good news for his eventual pension), coupled with additional SSIP contributions already made that year before finding out about the DB implications. All carry forwards have already been used and he is not subject to MPAA or tapering allowance.

We understand all that now but have some questions about the tax charge due:

1) if the excess Pension input charge when added to his normal taxable income taxes him over £100k (it will do), does that mean he also loses his personal allowance as well as having to pay 40% tax on the excess (won’t fall into 22/23 45% tax band). Feels punitive if the answer is yes, as the DB has largely been the cause of this so wasn’t actually real cash income. Although I guess it makes sense for the extra SSIP contributions made and these aren’t distinguished separately for tax purposes?

2) Is there a perceived view of whether it is better to use Scheme Pays or to pay the tax charge in cash? We have the cash so the impact of using that is the opportunity cost of not being able to earn interest on it. I understand Scheme pays charges some sort of interest penalty (higher than would be earned on cash?) From discussions with his colleagues it seems like the Scheme Pays charge can come off his cash lump sum but I can’t get my head round it all. My gut says pay the cash as it’s under our control but I worry we are missing something.

3) His SSIP is with Hargreaves. Would it be possible to pay the tax out of that instead? And if so does that change anything or does it not really matter where it comes from? Only thing I can think of is the SSIP will be accessed first at 55 and the DB at 60, so interest may be paid longer?

QrizB

I can't answer your first question, and I temd to agree with you on the second - if there's a charge to pay, I'd want to pay it in cash too.

Regarding your third question, would he have breached the AA simply on his DB PIA even if he hadn't made any SIPP contributions? If not, you might be able to deal with this via HL and pay the tax charge from there instead.

(Would HL be willing to refund his over-contribution so there is no tax charge to pay? Possibly not, but might be worth asking?)

hugheskevi

1) if the excess Pension input charge when added to his normal taxable income taxes him over £100k (it will do), does that mean he also loses his personal allowance as well as having to pay 40% tax on the excess (won’t fall into 22/23 45% tax band). Feels punitive if the answer is yes, as the DB has largely been the cause of this so wasn’t actually real cash income. Although I guess it makes sense for the extra SSIP contributions made and these aren’t distinguished separately for tax purposes?

Pension Inputs and Annual  Allowance charge does not impact Personal Allowance.

2) Is there a perceived view of whether it is better to use Scheme Pays or to pay the tax charge in cash? We have the cash so the impact of using that is the opportunity cost of not being able to earn interest on it. I understand Scheme pays charges some sort of interest penalty (higher than would be earned on cash?) From discussions with his colleagues it seems like the Scheme Pays charge can come off his cash lump sum but I can’t get my head round it all. My gut says pay the cash as it’s under our control but I worry we are missing something.

Previously the charge being made from pre-tax income as well as many affected by the charge also being affected by Lifetime Allowance made Scheme Pays quite attractive in many cases. The removal of the Lifetime Allowance changes that.

Your scheme will calculate how much they consider the discounted value of what the pension is worth to calculate the cost of using Scheme Pays. The discount rate reflects the return on assets that would have been achieved had the money remained in the fund. This will vary scheme-by-scheme.

Ensure you are taking into account that if using scheme pays the money is taken prior to income tax being applied - that is quite a boost.

3) His SSIP is with Hargreaves. Would it be possible to pay the tax out of that instead? And if so does that change anything or does it not really matter where it comes from? Only thing I can think of is the SSIP will be accessed first at 55 and the DB at 60, so interest may be paid longer?

Do Hargreaves offer voluntary scheme pays, and if so, what are their conditions? This will determine if this is a possible course of action.

If paid from a DC pension then you lose future investment returns, which is akin to what the discount rate calculations in a DB scheme are doing.

Workerbee999

Hi

since I posted my question, HL have just confirmed that OH can use voluntary scheme pays in his SSIP to pay the charge. No other fees, just needing available cash funds and doing the paperwork in time. Which seems the same as getting a refund in terms of impact on the SSIP?

compared to the DB with interest penalties/ reduced DB pension etc, this seems straightforward, just losing future investment gain.

can I check my logic - the SSIP has funds that have received 40% tax relief. There would still be enough left in the SSIP to withdraw personal allowance tax free until DB kicks in, so this money would have been withdrawn paying average 15% (tax @ 20% after 25% tax free amount, wouldn’t be near max tax free allowance in any scenario).

Although using the SSIP to pay the tax charge means he loses future investment growth, in reality he instead has the cash that would have been used to pay the tax so that can be invested instead. It might be possible to replace the SSIP tax payment by putting that cash in the SSIP this year (he has enough earnings and all would be at 40% relief) with the increased AA and the fact the brought forward DB pension will be uplifted by Sep22 CPI @ 10% and assuming this year doesn’t end up higher than 10% the annual allowance charge on the DB shouldn’t be high again.

Maybe even putting it as AVCs in the DB so it could come out tax free.

Currently not expecting to be above the previous lifetime allowance levels and he would just take the DB a bit earlier if that was the case, although no saying what Labour could do.

So does all this mean the tax effectively costs 15% less by using scheme pays or am I missing something obvious?

Thanks

Workerbee999

Would appreciate any feedback on my last question before we go ahead with scheme ways. Thanks