Pension overpayments: How to deal with mistakes & overpayments
Some people might say there’s no such thing as saving too much for retirement. But, as far as the tax man is concerned, it is possible to pay too much money into your pension.
Tax relief on pension contributions gives your savings a real boost, but it is limited and pension overpayments may be possible if you breach the annual allowance for the year.
What counts as a pensions overpayment?
Currently you can only pay 100% of your income into your pension, capped at a maximum of £60,000 a year for taxpayers.
If you don’t earn or pay tax you can still pay into a pension, but the maximum amount you can pay in and get basic rate tax relief (20%) is capped at £2,880 (or £3,600 after tax relief has been added).
If you pay in more than the specified limits for taxpayers or non-taxpayers, it will count as a pension overpayment.
What happens if I make a pension overpayment?
Thankfully there aren’t any punitive charges levelled at people that accidentally make an overpayment of pension contributions.
Normally, HMRC will simply add the overpayment to your income for the year and you’ll need to pay tax on it at your marginal rate (the highest rate of tax you pay on your income).
How do pension overpayments happen?
There are a number of instances where you could inadvertently make a pension contribution over payment.
These can include:
Going over the money purchase annual allowance (MPAA):
Pension rules allow you to start taking money out of your pension from the age of 55.
This means you could feasibly be in a position where you are accessing it, while you are still in work and making regular pension contributions. You might, for example, want to take a lump sum out of your pension, to cover a particular expense, long before you need to start taking an income from it.
However, once you start accessing your pension, the amount that you can pay into it reduces from £60,000 to just £10,000. This is called the Money Purchase Annual Allowance. If you are unaware of this and want to make sizeable contributions to your pension in your final years of work – perhaps paying in an inheritance or bonus – there is a greater risk of making a pension overpayment.
There are some instances where the MPAA won’t be triggered; for example if you take your full tax-free lump sum and move your money into drawdown but don’t take any income. Another exception is if you are cashing in a whole pension, but it’s value is less than £10,000.
Paying into a pension if you don’t pay tax
Some people will pay into a pension on somebody else’s behalf, a spouse or partner for example. This might be to help them build their own retirement savings or part of a couple’s wider tax-planning strategy.
However, the amount that non-taxpayers can pay into a pension each year is limited to £3,600 including basic rate tax relief. That means the total that can actually be paid into their pension is limited to £2,880.
Paying in more than you earn
Lots of people mistakenly think that the annual allowance for pensions is £60,000. But it’s actually 100% of earnings, capped at £60,000.
That means if somebody earns £20,000 a year, their annual allowance is £20,000.
This can cause pension planning hiccups in households where a higher earning spouse is topping up the pension of their lower earning other half.
Making mistakes with the carry forward rules
There are some cases where you can legitimately pay more than the annual allowance into your pension.
Carry forward rules allow you to pay in any unused allowance from the previous three tax years.
This might sound straightforward enough, but there is a catch that could scupper your plans and result in you inadvertently making a pension overpayment.
You can still only pay in 100% of your earnings. So, to comply with carry forward rules you need to make sure that you have earnt the amount you want to pay into your pension in the current tax year. That means if you want to pay in £60,000, you need to have earnt £60,000.
How can Pension Wise help?
If you have a defined contribution pension scheme and are 50 or over, then you can access free, impartial guidance on your pension options by booking a face to face or telephone appointment with Pension Wise, a service from MoneyHelper.
If you are under 50, you can still access free, impartial help and information about your pensions from MoneyHelper.
Learn more about our SIPP
Learn how to make the most of your SIPP with our useful guides.
Please remember, SIPPs are aimed at people happy to make their own investment decisions. Investment value can go up or down and you could get back less than you invest. You can normally only access the money from age 55 (57 from 2028). We recommend seeking advice from a suitably qualified financial advisor before making any decisions. Pension and tax rules depend on your circumstances and may change in future.