There is never a dull moment when it comes to pensions! Even if you have elected for NHS Pensions’ Scheme Pays, there is an oddity in HMRC legislation that could mean you are still personally responsible for paying some of your additional tax bill.
How do you know if this applies to you?
How much can you contribute to your NHS Pension before paying tax?
Everybody has an annual pension allowance. It is the amount that you can put into your pension each year without suffering a tax charge.
For NHS Pension Scheme members, how much you have contributed to your pension in any given year is based on how much your pension has grown in that year (your deemed contribution), not what you have actually paid into it.
The standard annual pension allowance is £40,000 but, under the new Tapered Annual Allowance rules, this can be reduced to as low as £10,000 for high earning doctors and dentists.
So, how much you can contribute to your NHS Pension without incurring a tax charge all depends on how much you have earned and what your deemed pension contribution is. The figure is different for everybody and calculating it is something you should, in truth, do with your financial adviser and/or tax accountant.
If you exceed your annual pension allowance, you are likely to be stung with an additional, unexpected tax bill.
How much of your additional tax liability can Scheme Pays pay for you?
If your tax bill for exceeding your annual pension allowance is:
- Less than £2,000, you will have to find the monies and settle the tax liability yourself;
- £2,000 or more, you can normally elect for NHS Pensions’ Scheme Pays (as long as you apply in time). It essentially means that the NHS pays your tax bill now and reclaims their payment by reducing your pension when you retire.
Will all your additional tax bill over £2,000 be paid by Scheme Pays?
Not necessarily and that is where the oddity in the HMRC legislations comes in. Only any excess above the standard £40,000 annual allowance limit can be paid by the Scheme Pays election.
In other words, if you have a reduced tapered annual allowance, any tax liability between your tapered allowance and £40,000 remains your personal responsibility.
Dr Jones is a high earning Consultant. Her tapered annual pension allowance is £15,000 and she has just found out that her deemed pension contributions total £60,000.
She has exceeded her tapered annual allowance by £45,000, all of which will be liable for tax and likely at 45%. That’s an unexpected additional tax bill of £20,250!
Even if Dr Jones elects for NHS Pensions’ Scheme Pays, only her tax liability on the £20,000 above the standard £40,000 annual allowance limit (£60,000 – £40,000 = £20,000) will be paid by the NHS. That’s just £9,000 of the £20,250 she owes.
The remaining £11,250 is the tax on the £25,000 difference between Dr Jones’ tapered annual allowance and the standard £40,000 annual allowance.
Not only will Dr Jones have to pay the remaining £11,250 herself, she will probably have to pay a higher amount on account for the following tax year too!
Is there any flexibility with Scheme Pays?
The NHS does make a small allowance. As long as your overall tax liability is more than £2,000, if the amount eligible for Scheme Pays’ is less than the normal £2,000 Scheme Pays minimum limit, the NHS will allow Scheme Pays for this smaller amount.
Dr Sayad has a tapered annual allowance of £27,000 but his deemed annual pension contributions total £43,000. His overall tax liability is therefore £7,200 (£16,000 x 45%). Only £1,350 of this tax bill is eligible for Scheme Pays (the tax on the £3,000 over the standard £40,000 limit).
Normally, Dr Sayad would have to pay this himself because it is lower than the £2,000 minimum Scheme Pays limit. However, because Dr Sayad’s overall tax liability for breaching his annual limit is £7,200, NHS Scheme Pays will consider paying the £1,350.
Of course, none of this avoids the fact that you are ultimately still liable for the tax when you retire!
* Both examples above assume the doctor/dentist is a higher rate tax payer.
Forewarned is forearmed
So that you can avoid being reactive and start planning for what could be the inevitable for some medics, we generally advocate building a picture of your finances. This will help forecast what your next actions need to be.
Where does your income come from?
- For hospital-based doctors this is relatively easy; your pay grades are detailed, although you do have to factor in your Clinical Excellence Awards
- For GP and Dental practitioners, it’s a little harder; your income is more prone to variation.
How much have you contributed to your pension this year?
For NHS Pension Scheme members, you can find out how much you are deemed to have contributed to your pension from your NHS Total Rewards Statement.
Is your income above the two key thresholds?
An analysis of your earnings will determine what your threshold income is and, for higher earners, your adjusted income. This in turn determines whether or not your annual pension allowance is tapered from the standard £40,000.
Needless to say, none of these calculations are simple and we do strongly recommend that you speak to an NHS pension specialist such as ourselves to get a better understanding of what you need to do under the current NHS and HMRC pension regulations.
We also have a calculator that gives us an indication of what your future pension tax liability could be. Would you rather be forewarned and know how much tax you are likely to have to pay or, be caught off-guard and have to find the funds to pay your hefty tax bill at the last minute? I know which I would prefer!
Do you know if NHS Pensions’ Scheme Pays will pay all or just part of your tax liability? Let us know by adding a comment below.