What is the annual pension allowance?

The annual pension allowance is the amount you can contribute to your pension in a tax year while still enjoying tax benefits. It sets a cap on how much you can stow away in your pension fund in a year, with the government offering tax relief to support saving for retirement.

How does it work?

Determining your earnings
Your annual pension allowance is generally based on your earnings for the tax year. For most people, it's the same as their wage for a year, but there are different rules for those with higher incomes.

The standard annual allowance
The standard annual pension allowance in the UK is £60,000. This means you can contribute up to £60,000 to your pension in a tax year and receive tax relief on the full amount. This amount may change in the future.

Tax relief is limited to relief on contributions up to the higher of:

• 100% of your UK taxable earnings
• £3,600

The money purchase annual allowance
If you take money from a defined contribution pension fund, you might get less tax relief. This is called the money purchase annual allowance (MPAA). Most people can contribute up to £60,000 to their pensions each tax year and receive tax-relief. This includes contributions from your employer. But if you trigger the MPAA, this reduces to £10,000 a year.

The MPAA only applies to contributions to defined contribution pensions and not defined benefit pension schemes.

The tapered annual allowance
For people with a higher income, the annual allowance might be reduced through a process called tapering. Tapering gradually reduces the allowance for those earning above a certain amount. The threshold is for 2023 to 2024 is £260,000, and for every extra £2 earned above this threshold, the allowance is reduced by £1. Tapering stops when the allowance reaches £10,000.

Unused allowance carry forward
If you have used up your annual allowance for this tax year, you can carry forward any unused allowance from the previous three tax years. This allows you to make more contributions in a tax year without tax penalties. You do need to have earnings of at least the amount you wish to pay in for this tax year. For those on higher incomes, you need to take your tapered annual allowance into account.

Workplace pensions
If you're in a workplace pension scheme, contributions from you and your employer count towards your annual allowance. It’s important to bear this in mind in case you also have a private pension.

Tax relief on pension contributions

One of the best reasons for contributing to your pension is the tax relief provided by the government. Here's how it works:

Basic rate tax relief
When you contribute to your pension, for basic rate taxpayers, the government adds basic rate tax relief to your contribution. This means for every £80 you contribute, the government adds £20 in tax relief, making the total contribution £100. If you are a non-taxpayer, you can still benefit from this tax relief on up to £3,600.

Higher rate and additional rate tax relief
If you're a higher or additional rate taxpayer, you can claim extra tax relief through your annual tax return if this is not applied at source. For example, in England and Wales in 2023 to 2024, this is 40% for higher rate taxpayers. Additional rate taxpayers - currently people who earn over £125,140 per year - can claim back 45% on their pension contributions. Different rates apply in Scotland where the higher rate for taxpayers is 42% and the top rate is 47%.

Get professional advice
Pension allowances and tax relief can be complex. If you're not sure about your situation, getting advice from a financial advisor is a good idea. They can help you work out your contributions and make the most of tax relief. They can also ensure your retirement savings plan matches with your financial goals.