Take action to avoid sizeable charges, says Jon Drysdale
Warning letters from NHS Pensions have landed with some dentists during the last fortnight. The HMRC gave the pensions agency until 5 October to issue letters to dentists who may have breached their annual pension allowance. These are entitled Annual Allowance Pension Savings Statement (2011/2012).
Many dentists will find out for the first time that they have breached the new limits on annual pension funding which were effective from 6 April 2011.
For some, it will be too late to take action to mitigate this and sizeable charges could be levied.
Astute members of the NHS Pension Scheme will have noticed that the figures included in this letter run only as far as the year ending 31 March 2012. This means that for the previous and current year, further breaches of the allowance may have been incurred already.
What are the penalties?
Dentists breaching the annual allowance will suffer a penalty charge equivalent to their highest rate of income tax. For example, a dentist with taxable income of £120,000 with contributions £5,000 in excess of the annual pension allowance will suffer a charge of £2,000 (based on 40% x £5,000).
How is the penalty charge paid?
There are two options here. First, the charge can be paid to the HMRC through self assessment (your tax return) as an increase in your tax bill. Second, the charge can be taken from your NHS Pension benefits at retirement – including an interest charge for deferment.
My opinion is that the latter option is probably more favourable for most dentists. This is partly because deferring the penalty charge allows it to be paid in the form of deducted retirement income, softening the blow. Also, in the event of death before retirement, any penalty charge is waived from the pension entitlement transferred to the survivor.
Third, this approach could limit your exposure to the Lifetime Allowance (the maximum amount of tax relieved pension that you can build up over your life – also known as LTA) in the future.
If you didn’t receive a warning letter, does this mean you won’t have a penalty charge to pay?
Unfortunately not. You may be under the annual allowance limit as far as the NHS is concerned but over the limit when the HMRC adds in personal pension contributions. So you may be on course to exceed the annual allowance this tax year and should investigate your current position as soon as possible to take action if necessary. If you didn’t receive a letter, and want to find out the deemed value of your NHS pension contributions, you can request this information from the NHS Pensions or through your adviser.
How can I avoid the penalty charge?
For many dentists, the only option would be to stop active contributions to the NHS pension scheme. For most, this is not advisable as the positive benefits of the scheme often outweigh the negative impact of the penalty charge.
In summary, I advise you to take advice from an independent financial adviser who has specialist knowledge of the NHS pension scheme.
John Drysdale is an Independent Financial Adviser for PFM Dental, specialising in retirement and wealth management solutions for dentists.
For further information on the issues covered in this article, contact PFM Dental on 0845 241 4480 or visit pfmdental.co.uk