Joshua Croft: Clarifying carry forward

Joshua Croft gets into the nuts and bolts of carry forward rules in his latest article for Retirement Planner

When the annual allowance was originally introduced in 2006 pension savers could contribute up to £215,000 without a penalty, and by the 2010/11 tax year the annual allowance reached £255,000.

But since that high point, dramatic reductions have been made and currently, the annual allowance stands at £40,000. Further restrictions exist with the tapered annual allowance for high earners and the money purchase annual allowance (MPAA) for those who have flexibly accessed their pension savings.  

Even with these reduced amounts pension savers may, in certain circumstances, still be able to make large contributions without penalty by making use of the carry rorward rules.

Three previous tax years

Providing certain conditions are met, these rules allow an individual to use unused annual allowances from the three previous tax years to increase the overall their annual allowance available to them in the current tax year.

To make use of carry forward the individual must have fully used up their current year’s annual allowance or will have by the end of the tax year.

The individual must have been a ‘member’ of a registered pension scheme at some point during the year being carried forward from. A member includes an active member, a deferred member, a pension credit member or a pensioner member. We’ve also had confirmation from HM Revenue & Customs (HMRC) that it includes members who’ve used their pension funds to purchase a lifetime annuity.

Where an individual with a high income is restricted by the tapered annual allowance, carry forward is still available so up to £40,000 can still potentially be carried forward from the previous three tax years.

But if the individual’s annual allowance has been reduced by application of the taper in previous years, only the balance of the tapered annual allowance can be carried forward to future tax years.

Once someone has flexibly accessed their pension savings – for example by taking income under flexi-access drawdown or by receiving an uncrystallised funds pension lump sum – they trigger the MPAA restricting their annual allowance to £4,000. The MPAA also removes the option to use carry forward so it is not possible to make use of any unused contribution allowance.

Being a UK resident is not a requirement to make use of carry forward, so if someone has spent a period of time overseas they can carry forward any unused allowance from those years once they return to the UK providing they were a member of a registered pension scheme at some point in the tax years being carried forward from.

It’s worth noting that carry forward only applies to the Annual Allowance and not tax relief entitlement. Tax relief on member contributions is limited to 100% of a member’s relevant UK earnings, and earnings from previous years cannot be carried forward. This means that an individual who has the maximum annual allowance of £160,000 (current tax year and three previous years of unused allowance) would only be able to make a member contribution of that size if they also had the earnings in the current tax year to support it. Employer contributions are not limited to the members earnings but must meet the ‘wholly and exclusively’ test.  

There is no requirement to report the use of carry forward to HMRC, it is only contributions in excess of the available allowance that need to be declared on a tax return.

It is recommended though that comprehensive records are kept where contributions exceed the annual allowance in any given year.

Joshua Croft is technical consultant at AJ Bell