Q. I joined a workplace pension six months ago and now my employer has sent me a letter encouraging me to take advantage of Salary Sacrifice to pay my contributions. It looks like I have to reduce my salary to take advantage of this which makes me think it all looks very suspect. Is this some form of scam?
A. Absolutely not, your employer is offering you a more efficient method of paying your pension contribution. Most people understand that pension contributions receive tax relief but not so many understand you can also effectively get national insurance relief too.
Traditionally pension contributions are paid from net income after tax and national insurance have been deducted with the basic rate of tax being added back the pension provider. Salary Sacrifice means you pay your contributions from gross salary not net. As it comes out of your PRE-TAX salary and straight into your pension, not only do you not pay tax on those earnings you also pay a reduced amount of national insurance.
For a basic rate taxpayer (20%) this means for every £100 you pay into your pension it only costs you £68.
If you are fortunate enough to pay tax at 40% or even 45% for every £100 you pay in it costs you £58 or £53 respectively.
Salary Sacrifice is not suitable for everyone, but for most people it has more advantages than disadvantages.
Q. I am a member of the NHS Pension scheme. As my benefits looked like they would be close to the Lifetime Allowance, I elected “Fixed Protection” in 2014 to protect my entitlement to the then allowance of £1.5million. A colleague is now suggesting to me that I should have opted out of the scheme at the same time, even though my benefits when I draw early retirement will not have increased at all. Is this correct?
A. Unfortunately I believe your colleague may be correct. There were two types of Protection available at 5 April 2014 when the Lifetime Allowance reduced from £1.5m to £1.25m. Individual Protection 2014 gives you a personalised Lifetime Allowance of your entitlement at 5th April 2014. You have until April 2017 to apply for this one, as you need to know your entitlement as at that date to calculate what your personal entitlement is. The other transitional Protection is “Fixed Protection 2014”. This gives you the full old allowance of £1.5m, but has restrictions on future accrual. In a personal pension or other money-purchase scheme, the restriction is simple – you are not allowed to pay anything in further contributions after April 2014. In a defined benefit scheme the rules are less obvious. Your benefits may not increase in value above inflation. The relevant inflation rate for 2014-15 was 2.7%. This means that someone with, say 30 years service, going to 31 years service with no pay increase, and therefore getting 3.3% more in benefit, would have too much accrual, and loses the Protection. Someone with 40 years service, going to 41 years, increases their benefit by 2.5%, which is just within the permitted level, but fails the following year, when the relevant inflation figure was 1.2%. If you breach these limits you must inform HMRC within 90 days. The Fixed Protection Certificate is not very helpfully stating that ”If an event occurs whereby paragraph 14, Schedule 18 Finance Act 2011 no longer applies you must tell HMRC within 90 days of the event happening. If you don’t you may be liable to a financial penalty.” Many people have not realised that this means remaining a member and breaching the accrual limits means that they must therefore inform HMRC and give them a date the “event” occurred. The equivalent regulations for the further reduction in 2016 seem likely to be a little bit more user friendly, so I am guessing that they have had quite a few misunderstandings on the current system. I recommend you contact a chartered financial planner to help you clear things up with HMRC, and keep any penalties to a minimum.
If you have a question you would like Trevor to answer, please email it to: yourmoney@rwpfg.co.uk or post it to Your Money, Rutherford Wilkinson Ltd, Northumbria House, 21-23 Brenkley Way, Blezard Business Park, Newcastle upon Tyne, NE13 6DS.
0191 217 3340
