Tom McPhail, director of public affairs at the Lang Cat, says: “I believe there’s the best part of £1bn a year in higher rate relief that goes unclaimed. Part of the problem is that in some pensions, full relief is given automatically, while in others, only basic rate relief is granted at source.
“So, employees can be lulled into a false sense of security. They maybe move jobs and don’t realise they’re operating under a different set of rules. People don’t always understand their payslips, their tax code and how deductions are calculated, so just assume everything is right.”
Morrissey adds: “Not [reclaiming] this can potentially leave you thousands of pounds out of pocket by the time you retire.”
Pension allowances limit even modest earners
However, not all potential banana skins in pensions relate to tax overpayments or rebates. One of the biggest problems even relatively modest earners can face arises because of the relatively low amount you can put into your pension each year once you have started accessing your pension pot.
For example, most people will have an annual allowance of £40,000 that can be put into their pension, but this is tapered if you are either a high earner or have already accessed your pension in the same year.
Morrissey says: “The money purchase annual allowance or tapered annual allowance [has] the potential to slash the amount you can put into your pension to as low as £4,000 per year. If you breach this allowance, you will be subject to a tax charge. So, it is worth checking your allowances to see what you are entitled to.”
The MPAA was introduced alongside pension freedoms “to prevent people drawing money from a pension, including the 25 per cent tax free lump sum, and recycling it back into a pension scheme to claim further tax relief on these contributions”, says Steven Cameron, pensions director at Aegon. It is triggered when people access their defined contribution pension.
The way this works means that even those on relatively moderate incomes are at risk of breaching the MPAA, with Aegon’s analysis showing that someone earning £30,000 a year and paying pension contributions on their full salary will breach the limit with monthly contributions more than 13.4 per cent, including any contributions from their employer.
Eyes wide open
Cameron adds: “Savers need to have their eyes wide open when accessing their pension to avoid the devastating consequences on future retirement plans. The little-known limit is putting thousands of older workers at risk of finding out too late that they have damaged their future pension potential.