So, you’ve worked really hard – built up a business, climbed the heights of the corporate ladder, or become so specialised in your field that no one else can take on your mantle – and you now have an income to reflect all you’ve achieved.
You may be looking for the most tax-efficient way to hold your hard-earned wages. But since becoming an additional rate taxpayer, you’ve probably also become accustomed to seeing some of your annual allowances and tax-reliefs reducing too.
Pension tapering is no exception to this rule – as it’s something that becomes trickier to work out depending on how much income you receive. Read on to find out how this affects you, and what other options you have for additional tax-efficient alternatives.
Jump straight to it:
- What is Pension Tapering and How Does it Work?
- Who Does the Tapered Pension Allowance Affect?
- What is the Difference Between Adjusted Income and Threshold Income?
- What Happens if I Go Over the Tapered Allowance?
- Options for High Earners
- Speak to a Financial Adviser
- Summary
What is pension tapering and how does it work?
The pension annual allowance for most UK taxpayers is £60,000. Put simply, this allowance is the limit on how much you can save into your pensions in a tax year while still benefitting from tax relief. Contributions over the pension annual allowance won’t benefit from tax relief and you may have to pay a tax charge.
However, for high earners, this allowance begins to reduce – or taper off – once their income exceeds a certain amount.
Known as ’pension tapering’, this process was introduced to limit the tax benefits available to additional rate taxpayers. And so, for every £2 of adjusted income over £260,000, the pension annual allowance is reduced by £1. This tapering eventually stops when the allowance has been reduced to just £10,000 (head-spinning stuff, right?).
But in practice, this just means if your adjusted income is £260,002 in a tax year , you’ll no longer get the £60,000 pension allowance amount as it will be reduced by £1 (making it £59,999 instead). For an income of £260,004 the allowance becomes £59,998. And so on.
What it boils down to is that people with the highest incomes face significant restrictions on the amount they can contribute to their pension in a tax-efficient way.
You could still contribute to your pension over this amount, but you’ll face a tax charge for that contribution, and it may be worth exploring other options first. After all, pensions are supposed to be a tax-efficient way to put money aside for your retirement!
Please remember your tax treatment will depend on your individual circumstances, and it may be subject to change in the future.
Who does the tapered pension allowance affect?
The tapered pension allowance specifically affects individuals with a ‘threshold income’ of over £200,000 and an ‘adjusted income’ of over £260,000.
- The threshold income: this usually includes all of your taxable income but excludes your pension contributions.
- The adjusted income includes all taxable income plus employer pension contributions and any personal contributions (or if you have defined benefit pension, that’s often seen for public sector job roles, by however much that’s increased by).
If your adjusted income is over £360,000 in a tax year, your tapered pension annual allowance would drop as low as £10,000. This effectively knocks off £50,000 from the standard pension annual allowance (£60,000).
At Wealthify, we don’t give financial advice; however, these calculations can be quite complex and you should refer to HMRC’s guidance, which can be found here: Work out your reduced (tapered) annual allowance - GOV.UK. Some additional rate taxpayers choose to get a specialised chartered accountant or independent financial adviser to help calculate the figures.
If your income goes over these limits, you’ll need to carefully calculate your allowable contributions to avoid penalties.
What is the difference between adjusted income and threshold income?
Understanding the difference between the threshold income and adjusted income is very important for figuring out whether the taper applies to you:
What happens if I go over the tapered allowance?
If your pension contributions go over your tapered annual pension allowance, the excess portion would be subject to an ’annual allowance charge’ (this is the tax charge applies to everyone who goes over their annual pension allowance, not just those on a high income, and can be up to 45% of your contribution).
You can choose to pay this charge personally by:
- Filling in the ’pension savings tax charges’ section of your Self-Assessment Tax Return. If you complete the form on paper, you’ll need the ’SA101’ form.
- Or, if you have exceeded the £60,000 standard annual allowance, by asking your pension provider to settle the charge for you and they’ll adjust your pension pot accordingly. (This is called ‘scheme pays’, but it may only be applicable if the tax charge is over £2,000 — under this, your provider is not obligated to action it for you, and you may need to do so yourself.)
Read more about this on the Gov.uk website here.
Options for high earners
If you are subject to tapering, you may well be considering additional tax efficient saving and investing options. Below are some examples, but please remember you can seek the services of an independent financial adviser if you need a personal recommendation. (Wealthify does not provide financial advice.):
1. Max out your ISA allowance
You can keep investing (like what a pension would do with your money) in an investment ISA instead.
Each tax year, you can invest up to £20,000 into an Individual Savings Account (ISA). Stocks & Shares ISAs, as well as other types of ISAs, allow you to continue growing your wealth tax-free. All the money held in an ISA is free from any capital gains tax or income tax, no matter how high the pot builds up to, nor how much profit the investments make.
If you have different types of ISAs, remember that the £20,000 is spread across them all, every tax year. So, say you also have a Cash ISA that you’re also using this tax year, be mindful of this.
Your full £20,000 ISA allowance resets on April 6th, so think about using up the allowance you’re entitled to before then to maximise its tax-free potential.
Remember: with investing your capital is at risk, and your tax treatment will also depend on your individual circumstances.
2. Don’t forget your child’s ISA allowance
If you have kids and you’re already putting money aside for them anyway, you could contribute up to £9,000 annually into a Junior ISA (JISA) on their behalf instead.
Each child is entitled to this tax-free allowance meaning your kids can have one each. And their £9,000 allowance is separate from your own £20,000 ISA limit, as the funds belong to your child and are only accessible to them when they turn 18.
Much like the adult version, a Junior Stocks and Shares ISA can be used to invest over a long period of time (up to 18 years, depending on how old they are when you start) and all the potential gains would be tax-free on withdrawal.
Again, remember that with investing, capital is at risk, and your child’s tax treatment will also depend on their individual circumstances.
3. Continue investing in a General Investment Account
A General Investment Account (GIA) is another option to consider if you’ve exhausted your ISA allowances. It doesn’t offer special tax-efficiency — but remember that capital gains tax only applies when your investment’s gains go over the annual allowance amount.
For 2025/26 that’s £3,000!
4. Money Purchase Annual Allowance (MPAA)
If you have already flexibly accessed your pension, something called the Money Purchase Annual Allowance (MPAA) kicks in. This means you can still add in up to £10,000 a year to that pension pot up until the age of 75, keeping in mind that this covers your pension contributions, any your employer might pay in and includes any tax relief you also receive into the pension.
This may be relevant depending on your circumstances, but it’s worth noting that the MPAA cannot be carried forward...
5. Carry over unused pension allowance
If you haven’t used your full pension annual allowance in the past three tax years, you might be able to carry the unused allowance forward to offset against this tax year’s contributions if your provider can facilitate this.
The carry-forward rule can be a useful tool for fending off the impact of pension tapering; however, not all providers can support this option (Wealthify, for example, doesn’t, but you’re welcome to transfer over to our Personal Pension at a later stage after your carry-over is complete).
If your provider can facilitate it, you will just need to have held a pension with a registered pension scheme in the past three tax years. If you are at all unsure about whether carrying forward your unused pension is the right option for you, speak to an independent financial adviser.
Be mindful of the anti-avoidance rule
A note on salary sacrifice: it’s important to be aware of the anti-avoidance rules.
You may have heard of salary sacrifice if it’s a policy your employer offers. If you’re wondering how this affects pension tapering and high earners, this might be of interest to you.
Any salary sacrifice agreements or bonus sacrifices made on or after July 9th 2015 would be included in your threshold income calculation (unless you have specific conditions in your policy to allow future increases. Seek legal advice if you’d like further guidance on this).
The anti-avoidance rule also applies to any pre-2015 agreements that have been modified since July 9th 2015 (as this effectively creates a new contract between you and the employer). And this would be the same rule for bonus sacrifices.
Speak to an independent financial adviser
If tapering applies to your pension annual allowance, keep in mind that it’s a complex part of your financial planning, and missteps could be costly.
Getting the help of an independent financial adviser is likely the best course of action for making sure your contributions are optimised while avoiding unnecessary tax charges; particularly if you find one who has expertise in tax and pensions.
They should also be able to help you navigate intricate rules, such as the anti-avoidance provisions.
Summary
Hopefully, this guide will have helped you understand pension tapering in more easily digestible terms.
It can be a complex topic with equally complex calculations. Especially as pension tapering poses unique challenges for high earners like yourself, reducing the amount you can tax-efficiently contribute to your pension.
At Wealthify, we can help you make the most of your allowances. Whether you’re looking to invest in a Stocks and Shares ISA, set up a Junior ISA for your kids, or diversify with a General Investment Account, we’ve got you covered.
With investing, your capital is at risk, so the value of your investments can go down as well as up, which means you could get back less than you initially invested.
Wealthify does not provide advice. If you’re not sure whether investing is right for you, please speak to a financial adviser.
Resources:
- https://www.gov.uk/guidance/pension-schemes-work-out-your-tapered-annual-allowance
- https://www.moneyhelper.org.uk/en/pensions-and-retirement/tax-and-pensions/tapered-annual-allowance
- https://techzone.aberdeenadviser.com/public/pensions/calc-tapered-annual-allowance
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