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Money Purchase Annual Allowance - an explanation
Bernadette Lewis, Financial Planning Manager for Scottish Widows, writes about how further restrictions to the MPAA can affect employers.
Employees who’ve accessed their pension benefits under pension freedoms could be caught out by further restrictions to the annual allowance. They’ll be told by their pension provider if the Money Purchase Annual Allowance (MPAA) applies to them. This will normally affect only older employees – aged 55 and over.
The MPAA restricts the level of tax efficient contributions those who’ve already flexibly accessed their pensions can pay. The standard annual allowance is £40,000. The MPAA was originally set at £10,000 but reduces to £4,000 from the current 2017/2018 tax year. So it’s now likely to have a real impact on more people.
Whilst the reduction was announced in the March 2017 Budget, the General Election delayed the legislation changes. This has led to some confusion. However, the Government has confirmed the reduction is going ahead, backdated to 6 April 2017.
An employee who’s caught by the MPAA faces a tax charge if contributions to their money purchase pension total more than £4,000 in a tax year. Both employer and member contributions count towards this limit. The tax charge is based on the member’s income tax rate. So basic rate taxpayers pay 20% of the excess, higher rate taxpayers pay 40% and additional rate taxpayers 45%. For the excess contributions, this effectively wipes out the benefit of tax relief on any member contributions and the advantage of not paying income tax on employer contributions.
Some employees might be members of both final salary schemes and money purchase schemes. The MPAA applies in the same way to the money purchase contributions. But it doesn’t apply to benefits they accrue in their final salary scheme – here the usual annual allowance limits still apply.
What are the options for employees?
Employees will only be affected if the total of all contributions going into money purchase pensions is more than £4,000 in a tax year. This includes workplace pensions plus any private arrangements they might have.
Some employees might choose to opt out of their workplace pension, although this would mean losing the benefit of any employer contributions.
Employees can usually arrange to reduce total contributions. This depends on the scheme rules for occupational pension schemes. Or what’s been agreed by the employer for group personal pensions. In most cases, a lower percentage employee contribution will lead to a lower percentage employer contribution.
The employer might agree to pay additional salary, to make up for the lost employer contributions. This would be for the net amount after allowing for employer national insurance.
The MPAA and employers
The MPAA doesn’t directly affect employers. They don’t have to take any action unless an employee asks them about one of the above options.
Also, the MPAA doesn’t change the employer’s automatic enrolment duties. There aren’t any special provisions, unlike the options for those who have lifetime allowance protection.
If an employee opts out, or reduces their contribution below the automatic enrolment minimum, they’ll go into the three-year automatic re-enrolment pool.
However, it might be possible to avoid the re-enrolment pool if the employer is willing to use entitlement checks. To pass the entitlement check, the overall and employer contributions must be at least as good as those required on a qualifying earnings basis. Up to 5 April 2018, the entitlement check is against 2% of qualifying earnings, with the employer contributing at least 1% of this. For 2017/2018, the qualifying earnings band is £5,876 to £45,000. So this year’s entitlement check is against £782.48 at most. Even if employers use the eventual 8% contribution rate, that would only amount to £3,129.92 – still less than £4,000.