Written by Sam Porter, Director of Marketing for Wesleyan Medical Sickness
As high earners with a generous pension scheme, hospital doctors, GPs and NHS dentists are amongst the professions most likely to be affected by these changes. If you also contribute to a private pension plan or pay additional voluntary contributions, this will further increase the chances of you being affected.
From 6 April 2011, the amount that someone can save into their pension with tax relief each year is dropping from £255,000 to £50,000. This is known as the annual allowance and includes any increase in NHS Pension Scheme benefits as well as contributions to any other pensions.
In addition, the way annual increases in NHS Pension Scheme benefits are assessed is changing. For the purposes of valuation, any annual increase will be multiplied by a factor of 16 (previously 10).
The Lifetime Allowance - the total amount of pension savings you can build up tax efficiently over your life - is £1.8 million for the tax year 2010/2011, but will be reduced to £1.5 million with effect from 6 April 2012.
Why the new limits are significant
To most, the new annual allowance of £50,000 sounds like a large amount of contributions. However, because of the increased multiple applied for valuation purposes, an annual accrual of just £1,000 in your NHS pension will actually use up £16,000 of your allowance and any separate lump sum entitlement you accrue will also count towards this.
It’s also worth remembering things like quality and outcome payments in the case of GPs, or clinical excellence awards for hospital doctors, will be taken into consideration as pensionable pay which will increase your pension accrual.
If someone exceeds their annual allowance, the excess will suffer income tax at their marginal rate of tax which is likely to be 40 percent or 50 percent for many healthcare professionals.
Again, a lifetime allowance of £1.5 million may also sound like a significant sum. However, if you have a reasonably long period of service under the NHS Scheme, a history of high pensionable earnings, and/or large funds in private pension arrangements you may well be affected by the lifetime allowance. If your benefits at retirement exceed this, you will incur a tax charge (55 percent if taken as a lump sum and 25 percent if taken as an income) on the excess amount.
Planning is a must
The key thing is not to make any knee-jerk decisions if you’re worried that you’re about to hit either of the allowance limits. This is a complex area and everyone’s situation is different so you should seek specialist financial advice from a provider who has a detailed understanding of the NHS Pension Scheme.
It is likely that many healthcare professionals will want to look at alternative forms of long-term saving to work alongside their pension plans. While the pension allowances are falling, the amount you can save into an Individual Savings Account (ISA) is increasing annually in-line with inflation. So for the 2011/12 tax year you can save up to £10,680 free of income tax and capital gains tax. All of this amount can be placed in a stocks and shares ISA. Historically equities have tended to outperform cash investments over long periods of time and so have offered better returns for long-term savers. ISAs can also be more flexible than pension savings.
You could also consider other long-term savings products such as life assurance based savings plans which are often also tax efficient if the saver keeps to certain criteria, referred to as qualifying rules. There are a range of other products available that will help you save flexibly.
The main thing is to act now rather than defer any decision, failure to do so could be costly.