How to maximise your pension contributions

As end of the tax year draws closer, the financial services industry is eager to tell people to use their tax-free savings allowances before they lose them. But when it comes to pension contributions, don’t fall for the marketing hype.

In fact, the rules on private pension savings are much more relaxed when it comes to the annual allowance than people often realise. While there is an annual allowance on private pension contributions – £40,000 for most people – it is also possible to carry forward unused allowances over several years. If you did not use your annual allowance in full in any of the three tax years prior to the current one, you may be able to take advantage this tax year.

For example, imagine a saver with the full £40,000 allowance whose private pensions contributions totalled £20,000, £25,000 and £30,000 in 2018-2019, 2019-2020, and 2020-2021 respectively. Under the carry forward rules, this saver would have unused allowance totalling £45,000 from the past three years. That figure can be added to this year’s annual allowance, giving a total permissible pension contribution of £85,000.

Know the rules

There are some important caveats. The annual allowance on pension contributions applies across all the pension schemes to which you belong. That covers contributions made on your behalf as well as your own savings, including money from your employer and the tax relief you receive. So you may have used more of your annual allowance in previous years than you realise.

In addition, there are specific rules that apply to the carry forward system. In particular, you must use your annual allowance in the current tax year before carrying forward unused allowance from previous years – so you can’t hold over this year’s allowance and carry forward allowance from a previous year instead.

Also, you must have been a member of a UK-registered pension scheme in each of the tax years from which you wish to carry forward. You don’t need to have made any contributions in those years, but if you have just joined a private pension scheme for the first time, you can’t claim three years’ of backwards-looking annual allowance. Finally, you have to carry foward any unused annual allowance from the earliest year first, and you can only use it once. 

Check your past allowance

The other thing to check is what your annual allowance was in the years in question. If you didn’t earn as much as £40,000 in any of those years, your allowance will have been set at the lower value of your earnings. And if you had high earnings – more than £150,000, typically – you may have been subject to a reduced annual allowance. Either way, it is your personal annual allowance that is the relevant figure for the carry forward rule, not the general £40,000 figure.

Despite this small print, the carry forward rules can prove very useful for many savers. In theory, they could increase your annual allowance for the current tax year – ending on 5 April – to as much as £160,000. Most people won’t be in that position, but if you’re able to take advantage of the carry forward rules even in a modest way, it is worth doing so.

This might be particularly relevant to you if you have irregular earnings – eg, if your salary varies considerably from one year to the next because of bonus payments or commissions. Your lumpy earnings profile may have limited your ability to save in previous years. In that case it’s worth catching up when you have the opportunity to do so.