Understanding voluntary and compulsory scheme pays

  • Describe the background to changes to the annual allowance.
  • Identify the requirements of voluntary scheme pays and compulsory scheme pays.
  • List what there is to know about DB and DC scheme pays.
Understanding voluntary and compulsory scheme pays

When the annual allowance was introduced back at A-day – which took effect on April 6 2006 – it was a generous £215,000, and once reached the dizzying heights of £255,000.

This is all a distant memory now as we not only have a much lower limit of £40,000, but also the money purchase annual allowance (MPAA) and tapered annual allowance to contend with.

All in all, this means a lot more people are having to pay annual allowance charges in one form or another. 

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In September, HM Revenue & Customs released its latest pension contribution statistics, which include the 2016 to 2017 tax year. This gives us the first indication of the impact of the tapered annual allowance, and it is not pretty.

Unsurprisingly the total value of excess contributions reported in the years where the annual allowance was over £200,000 were minimal, peaking at £8m in 2008 to 2009 with just 190 individuals impacted.

The figures jumped into the £100m to £180m bracket for the periods 2011 to 2012, to 2015 to 2016 once the annual allowance was cut to £50m, and then £40m. 

In 2016 to 2017 this figure soared to £517m, with 16,590 individuals reporting pension contributions above their available annual allowance.

The annual allowance charge is calculated by adding the excess contribution to income for the year, and applying tax at the appropriate rate. This means the tax charge may be payable at more than one rate if it spans two tax bands (or more – with a greater likelihood for Scottish taxpayers). 

It is the individual’s responsibility to report the overpayment of contributions to HMRC via self-assessment.

If they have not completed a return before then they need to register with HMRC to get one. HMRC help sheet HS345 gives more information on completing the “Pension Savings Tax Charges” section of the self-assessment. 

Paying the charge 

When it comes to paying the annual allowance charge the individual is personally liable for the charge but may have the option of using scheme pays. Even if scheme pays is available it may not always be desirable. More on that later. 

First, let’s look at the circumstances when a scheme can pay the charge on behalf of the member.

There are two variants of scheme pays – what HMRC just call “scheme pays”, but to avoid confusion I will call compulsory scheme pays and voluntary scheme pays.

Compulsory scheme pays 

There are strict rules set out by HMRC as to when compulsory scheme pays can be used, but if these are met then the scheme becomes jointly liable with the member for the charge.

As compulsory suggests, the scheme does not have any choice. 

So, what are the requirements? 

First, the annual allowance must have been exceeded in the scheme concerned. By this, I mean the £40,000 annual allowance.