What is the annual allowance?

The annual allowance is the maximum amount you can contribute to your pensions each year to receive tax relief.

If you’re a UK taxpayer, this is 100% of your annual earnings up to a maximum of £40,000.

Your annual allowance could be lower than £40,000 if you have a very high income, or you’ve already started to flexibly access your pension pot. 

If you’re not earning enough to pay income tax, you can still receive tax relief on pension contributions up to £3,600 per tax year.

Note that the annual allowance applies to all your pension contributions, whether contributed by you or your employer.

If you exceed the limit, a tax charge is made which effectively takes back any tax relief that was given at source (unless you have any ‘carry forward’ available).

What is carry forward?

Carry forward lets you take advantage of any unused annual allowance from the three previous tax years, as long as you were a member of a registered pension scheme during that time.

It means you may be able to make pension contributions in excess of the £40,000 annual allowance and still receive tax relief.

What is an annuity?

An annuity is a retirement product which you can buy from age 55 with all of your pension pot to provide yourself with a regular and guaranteed income for life. 

Find out more about annuities here

What is a defined benefits scheme?

A defined benefits scheme is a type of workplace pension. It pays you a set retirement income based on your salary and how long you’ve worked for your employer.

Sometimes it’s based on your final salary, but more commonly it’s based on your career average earnings.

Defined benefits schemes are commonly used for public sector pensions, like the NHS and Teachers’ Pension Scheme.

What is a defined contribution scheme?

A defined contribution pension is a type of pension scheme. It’s sometimes known as a money purchase scheme. 

You pay in a set amount (contribution) from your salary each month, and so can your employer. This builds a pension pot that you can take when you retire.

Your pension pot is usually invested in stocks and shares and other investments, to try and maximise the amount you receive at retirement.

What is the lifetime allowance?

The lifetime allowance (LTA) is the amount of pension benefit that you can draw without triggering a tax charge. You can draw more from your pension schemes, but you will be taxed.

The current lifetime allowance for the tax year 2021/22 is £1,073,100, and has been frozen at this amount for five years until April 2026.

Exceeding the lifetime allowance can trigger an extra tax charge of up to 55%, unless your pension is protected. You can find out more about LTA protections at www.gov.uk.

What is pension drawdown?

A pension drawdown is one of the ways you can take your pension. It gives you flexible access to take money out of your pot as and when you need it. 

You can set money aside in flexi-access drawdown, where it will be invested in funds to potentially grow further. You can then take a regular income, or cash lump sums while your remaining fund is invested. You also have the option to continue to pay into this plan, although you may be restricted by the Money Purchase Annual Allowance.

What is normal pension age?

In a pension scheme, the normal pension age is the age at which you can start to take your pension without any loss of benefits. When you set up a pension, you select the age you wish to retire, known as your Selected Benefit Date (SBD). This can be changed or adjusted to meet your needs.

If you take your pension after the age of 75, there will be tax implications.

What is state pension age?

Your state pension age is the earliest age at which you can start receiving your state pension. Due to continuing increases in life expectancy, the state pension age is gradually being increased to 68. To find out more, you can check your state pension age.

What is minimum pension age?

The minimum pension age is the earliest age at which you can withdraw some or all of your pension benefits. In most types of pension scheme, this is aged 55, but is due to increase to 57 by 2028.

The minimum pension age in your scheme could be different, so it’s always good to check.

What is protected pension age?

In some pension schemes, members may have a protected pension age. This means they may be able to access their benefits at an age earlier than the normal minimum pension age.

What is tax relief?

Pension tax relief helps you save money into your pension that would normally be taken in tax. 

It usually works in one of two ways. If you’re paying into a workplace pension scheme, your pension contribution is taken from your pay before the tax calculation. This ensures you don’t pay tax on it.

If you’re saving into a personal pension, you will have paid income tax on your earnings before you can make your contributions – but your personal pension provider can claim the tax back every time you contribute.

If you’re a basic-rate taxpayer (20%), that means paying £100 into your pension only really costs you £80. The other £20 is paid by the government (20% of £100).

Please note that tax treatment is based on your individual circumstances and is subject to change in the future.

What is transfer value?

The transfer value of your pension is how much your pension is worth if you move to another provider. This is different to your pension fund value (the amount of money available in your pension pot).

What is revaluation?

In some defined benefit pension schemes, pension pots are ‘revalued’ annually to factor in inflation. 

Revaluation, for the most part, protects your money from the general increase in prices and fall in the purchasing power of your money. 

What is a final salary pension scheme?

A final salary scheme is a defined benefits scheme that calculates your pension based on your final salary at retirement.

What is a career average pension scheme?

A career average scheme is a defined benefits pension scheme that calculates your pension using your average earnings since you joined the scheme. These earnings are adjusted (‘revalued’) to account for inflation.

Career average schemes are often known as CARE schemes. That stands for Career Average Revalued Earnings.