Relief for individuals' contributions

Under the new regime, there will be no restriction on the amount of contributions an individual can pay into a registered scheme; only on the amount of tax relief given. This means that unlimited contributions may be made to, and retained by, a registered pension scheme.

Investment income build-up and capital gains will accrue tax-free within the fund.

An individual will be entitled to tax relief on personal contributions in any given tax year up to the higher of 100% of 'relevant UK earnings' or £3,600.

Relevant UK earnings means (broadly) employment income and/or trading profits (for the self employed).

Tax relief on contributions will continue at the individual's marginal rate of tax. The main way relief is given will be similar to the way relief is given currently to personal pension scheme contributions ie by the basic rate of tax relief being given at source, with higher rate relief claimed through the self assessment tax or PAYE systems.

Example

Eric is self employed. His profits for 2006/07 are £60,000. He pays a monthly pension contribution of £780 net into a personal pension scheme.

Each £780 is a payment net of basic rate tax relief at source of £220, so the 'gross' contribution would be £1,000 without any tax relief. The total gross payments in the tax year are £12,000 and, as this is less than his profits, he is entitled to tax relief at his marginal rate of tax. His marginal rate of tax on the top £12,000 of income is 40%. As he has been given basic rate tax relief at source (22%), the extra relief (18%) will need to be claimed through his tax return.

If Eric's profits fall to £20,000 in the following year, 2007/08, and he continues to make the same monthly payments, he will still be entitled to tax relief, as the gross contributions are less than his profits. So he will obtain basic rate relief at source (22%). He is not a higher rate taxpayer in this year, so there is no further relief due.

Due to the need to 'simplify' the tax relief rules, some flexible features of the current regime for personal pensions will disappear. In particular there will be no facility to carry back contributions to an earlier tax year. So Eric, under the current system, could have claimed to carry back some of the contributions paid in 2007/08 to 2006/07 and thus obtain higher rate tax relief. But he cannot do so under the new regime.

Nor will the 'six year cycle' continue. This, currently, is the ability to nominate earnings from a previous tax year as the earnings figure against which tax relief is measured.

In other words the maximum contributions for which tax relief will be given will be determined by reference to earnings in the tax year of payment only.