Contractors with pension plans mirroring the tax year have only a few months to top up their pensions before tax-free pension contribution allowances are slashed. This move by Chancellor George Osborne takes effect in April 2011, when pension contributions above the new limits could result in additional tax liabilities.
According to specialist independent financial adviser Tony Harris of ContractorFinancials, despite the announcement on 14th October 2010 that pensions allowances will be cut, full details of the timing of the legislation and likely impact on contractors are only just emerging.
“Limited company contractors and umbrella company contractors with pension input periods matching the April to March tax year can continue to apply the same limits until April 2011,” explains Harris. “But limited company contractors whose financial year and pension input periods started after the financial year began in April 2010 may find their allowances cut.”
Harris also warns that changes to the multiples used to calculate the value of final salary schemes may also impact negatively on contractors, particularly those with legacy pensions from periods of employment, or those considering leaving contracting for a permanent role.
Changes to contractor pensions
The key changes to pensions allowances include:
- From 6th April 2011, the annual tax-free contributions allowance will fall from £255,000 to £50,000
- The lifetime tax-free contribution allowance will fall from £1.8m to £1.5m
- Defined benefit schemes will have a new way of way of calculating the final salary benefit from a factor of 10 to a factor of 16, potentially increasing tax charges and decreasing pension values
- Limits will not be indexed and so will effectively reduce each year as a result of ‘fiscal drag’, unless reviewed.
It appears that measures will be put in place to protect those contractors who are very close to retirement, but details are not yet known.
Urgent action required by contractors
“For many contractors investing less than £4,000 each month into a pension, the reduction of annual allowance from £255,000 to £50,000 will make little difference,” says Harris. “But those contractors at an age where they are a long way from retirement may suffer from the lifetime cap of £1.5m and may wish to consider additional financial arrangements for retirement.”
Contractors whose pension input period runs alongside the tax year from April to March have a window of opportunity until April 2011 to increase pension payments. They can do so using surplus cash in their business, potentially up to the existing £255,000 limit before that limit drops by £205,000 next April.
There are numerous alternative options that can help contractors save without endangering their pension pots
Tony Harris, Contractor Financials
However, as Harris explains, for contractors outside this cycle, such as contractor limited companies with financial years that don’t match the tax year, it may be too late. “If a contractor’s pension input period, which is effectively their personal pension scheme’s ‘financial year’, started after the tax year in April 2010, they may already be subject to the new limits,” he says. “Determining pension input periods and allowances is complex and I’d urge contractors to contact their independent financial adviser to determine exactly where they stand.”
Now is the time to consider alternate tax mitigation options
Harris suggests that those contractors affected, or likely to become affected, view these changes as an opportunity to consider additional financial measures in addition to their pension pots. There are tax-efficient alternatives that can contribute towards financial security in retirement, he says.
Tony Harris is MD of ContractorFinancials, recognised as the specialist independent financial adviser for Contractors.
ContractorFinancials offer jargon free and timely mortgage, pension, insurance and investment solutions tailored to the unique needs of Contractors.
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“There are numerous alternative options that can help contractors save without endangering their pension pots,” explains Harris. “These include regular savings plans, bonds and Individual Savings Accounts (ISAs).” The latter are likely to be an attractive option, as the ISA limit will be increased in April 2011 to £10,680, half of which can be in cash.
Harris concludes: “These changes provide an opportunity for contractors to focus on alternative savings, investments and retirement planning strategies, and a call now to their independent financial advisers would be very timely.”
Published: Monday, November 01, 2010
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