Navigating the world of pensions isn’t always easy, particularly because the tax rules associated with saving for retirement are complicated and have changed a lot over the years as governments have tinkered with them.
There are many allowances that will impact how much you can save as well as your options when you reach retirement and want to access the money you’ve worked hard to put aside.
To encourage savers to plan for the future, the government offers a range of incentives. The main one is pension tax relief – which effectively refunds you the income tax you paid on the money when you originally earned it.
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But this isn’t an endless perk – there are limits set. The same goes for the generous perk of being able to take 25% of your pension savings tax-free when you reach age 55 (age 57 from 2028). There is a cap on the total tax-free cash you can draw.
We have compiled a guide to the allowances associated with pensions to help you make sure you get your all-important retirement planning right.
What are pension allowances?
There is a long list of allowances that relate to the tax treatment of pensions. Some affect how much money you can pay into your pension each year and others are to do with when you come to retire and the tax needed to be paid at that time.
It’s worth understanding these allowances so you can maximise the many valuable tax perks on offer.
As a reminder, you get tax relief on contributions at your marginal rate, and at retirement have the opportunity to take 25% of your pension pot completely tax-free.
It’s also crucial to understand the limits on saving in a pension and in particular the tax rules for higher earners if you fit into this category.
What is the pension annual allowance?
The amount that you can save in a pension and receive tax relief on is limited each year. For most people the maximum you can pay into your pension during a single tax year is as much as you earn, up to the annual pension allowance which is currently set at £60,000.
There is a separate annual allowance for those aged 55 or over who have already taken a flexible lump sum or income from a pension scheme or plan. In this case, the MPAA (Money Purchase Annual Allowance) applies, and limits defined contribution pension contributions to £10,000 a year.
What counts towards the pension annual allowance?
It’s not just your personal contributions to your pension that count towards the annual allowance.
The £60,000 is a total figure to include all pension contributions made by you, your employer, plus any basic-rate tax relief (20%) added by the government.
What happens if you exceed the pension annual allowance?
You can leave the money over and above the allowance in your pension but you won’t get tax relief on the amount above the limit and you’ll likely need to pay income tax on the money above the limit, called an annual allowance tax charge.
It effectively removes any tax relief on pension contributions that exceeded the allowance during that particular tax year.
If you’re nearing the threshold year you could explore using up any unused allowance from previous years.
If you do end up exceeding the annual allowance in a year, you must report this to HMRC in a self-assessment tax return. This will also calculate what you need to pay.
Can I use previous years’ pension annual allowance?
Pensions have a unique feature that allow you to use up allowances from previous tax years if you hadn’t maximised your annual allowance.
You can carry forward unused tax allowances from the previous three tax years. This rule could allow you to contribute up to £220,000 including tax relief in the current tax year 2025/26.
That’s because in the last two tax years, the annual allowance was £60,000, and in the tax year before that it was £40,000.
You don’t need to declare using the carry forward rules to HMRC or do anything differently to how you usually make contributions.
As long as they fall within the correct allowances you don’t need to report anything via a self-assessment tax return either – unless you’re a higher rate or top rate taxpayer. It makes sense to keep records in case HMRC queries anything in the future.
An exception to the carry forward rule is if you have already accessed a pension scheme. In this case, an MPAA applies and so you won’t be able to use carry forward.
What is the tapered annual allowance?
This is an allowance that impacts higher earners. While the standard annual allowance for the 2025/26 tax year is £60,000, if you’re a higher earner – earning over £200,000 – this reduces to an amount between £10,000 and £60,000. This is called the tapered annual allowance.
The standard annual allowance of £60,000 reduces by £1 for every £2 of adjusted income you have above £260,000. The minimum tapered annual allowance is £10,000.
What other types of pension allowances are there?
Until 2024 there was a limit to the total value of pension benefits you could build up throughout your lifetime. This limit was known as the lifetime allowance and was set at £1,073,100 for most people.
However, the Conservative government abolished the lifetime allowance from 6 April 2024 and replaced it with three different allowances – the lump sum allowance, the lump sum and death benefit allowance, and the overseas transfer allowance.
These new lump sum allowances kick in when you start to take money out of your pension pot.
What is the lump sum allowance (LSA)?
There is a set level of tax-free lump sum benefits that you are able to draw from all registered pension schemes in your lifetime.
The lump sum allowance (LSA) limits the amount of tax-free lump sum you can receive from your pensions at retirement to £268,275, which is equal to 25% of the lifetime allowance (LTA) that was in place before 6 April 2024 (£1,073,100).
The lump sum allowance is triggered when a tax-free element of pension benefits is taken and impacts those with large pension pots who may not be able to take the full 25% tax-free.
What is the lump sum and death benefit allowance (LSDBA)?
The lump sum and death benefit allowance (LSDBA) limits the amount of tax-free lump sum you can receive.
It applies during your lifetime as well as to death benefits when you die.
The LSBDA is £1,073,100. However, this can be higher if you have certain protected allowances associated with your pension scheme.
If you’re not sure if you have any protected allowances you can ask the scheme provider.
What is the overseas transfer allowance (OTA)?
If you have a UK-based defined contribution pension scheme, but move abroad, you should be able to transfer it to any recognised overseas pension scheme. However, this transfer will be limited to the overseas transfer allowance (OTA) of £1,073,100.
Those transfers exceeding the will incur a 25% overseas transfer charge on the excess amount.
