How to get the most from your pension in 2025

Pensions are a tax efficient way of saving for your future and should always be considered as part of your year-end tax planning activities. We set out what you need to know about pensions in 2025.

Why are Pensions so attractive?

Tax relief on contributions

One of the main benefits, when you pay into a workplace pension, personal pension scheme or a Self-Invested Personal Pension (SIPP), is that you can get money back from the Government in the form of tax relief. It’s a way of encouraging you to prepare for your retirement and it effectively amounts to free money, so it is important to make the most of it.

If you are under 75 you get tax back on all your pension contributions, subject to the upper limits set out later in this article. 20% tax relief is automatically applied to pension contributions you make, or which are made direct from your salary by an employer. Higher rate taxpayers can claim an additional 20% and top rate taxpayers an additional 25% (this is not automatic and must be reclaimed from HMRC).

20% tax relief does not mean that you receive 20% of your contribution back. Instead, it is the difference between your contribution amount and your pre-tax earnings. So, for example, an £80 pension contribution would have been generated from earnings of £100 (from which the taxman deducted 20% to leave you with the £80 to put into the pension). In effect, you only have to pay in £80 for every £100 that lands in your pension.

Tax free investment gains

Investments that are made with cash from your pension benefit from high levels of tax relief. In most cases, any gains that you make from those investments can be enjoyed tax-free.

A tax-free lump sum when you retire

You can usually take up to a quarter of your pension savings as a tax-free lump sum.

Flexible access from age 55 (soon to be 57)

The popular pension freedom reforms that launched in April 2015 mean that you can now access your whole pension pot at age 55 and spend, save or invest the money as you wish. You can withdraw the whole pot in one go, although that might mean mistakenly running up a huge tax bill. Alternatively, you can choose to drawdown from your pension arrangements to provide an income that can be used to support you in retirement.

It should be noted that, from 2028 onwards, the minimum age for accessing your pension will increase to 57.

Annual allowance

Since April 2023, you have been able to contribute £60,000 to your pension annually, up from the previous limit of £40,000. This can also be increased if you did not use up your allowances in the preceding 3 years and were a member of a qualifying pension scheme. However, it should be noted that individuals will only receive tax relief up to the higher of your relevant earnings or £3,600.

The Government has also increased the point at which an individuals’ annual allowance will be tapered - from £240,000 to £260,000. The allowance will continue to be reduced by £1 for every £2 an individual’s ‘adjusted income’ is over £260,000 and can still affect you if your income from all sources is over £200,000. However, the minimum tapered allowance has also increased to £10,000, up from £4,000 in previous years. Therefore, individuals earning over £360,000 will still be able to contribute up to £10,000 into their pension arrangements.

It should also be noted that the Money Purchase Annual Allowance which limits how much individuals can contribute into a pension once they have ‘flexibly accessed’ their arrangement also increased from £4,000 to £10,000 in April 2023.

These changes provide opportunities for individuals who were previously tapered to be able to potentially contribute more into their pension arrangements going forwards. On the flip side, the annual allowance can affect you unexpectedly if you are a member of a final salary e.g. defined benefit (DB) or career average scheme. Should you breach the rules and pay too much, you will be subject to an annual allowance charge. Payment of this charge is the individual member’s responsibility and will be charged at your marginal rate of tax.

Lifetime Allowance

The Lifetime Allowance (LTA), which was abolished from 6 April 2024, was the maximum total amount a person could accrue within their pension plans without having to pay an additional tax charge.

Since 6 April 2023 no-one has faced an LTA charge irrespective of the level of their pension benefits.

Although the LTA was abolished completely on 6 April 2024, the level of a person’s LTA determines the level of their new allowances.

The standard LTA has been replaced with the two mainstream allowances being:

• Lump Sum Allowance (LSA)
  This limits the amount a person can take as tax-free lump sums during their lifetime, currently £268,275 or higher if LTA protections apply.
  
  
• Lump Sum and Death Benefit Allowance (LSDBA)
  This limits the amount that a person can take as tax-free lump sums during their lifetime, as serious ill-health lump sums before age 75 and by their beneficiaries as lump sum death benefits on the member’s death before age 75, currently £1073,100 or higher if LTA protections apply.
  
  

The taxation of remaining pension benefits for the owner of the scheme or future beneficiaries will depend on many variables and circumstances will vary. Your Financial Adviser will help clarify your individual situation.

Despite the limitations on accessing tax-free cash, the abolition of the LTA provides huge opportunities for individuals who have previously limited their pension contributions due to LTA concerns to now restart these to take advantage of the tax-advantaged status of pensions. Moreover, individuals who have restricted their contributions in the current or previous tax years due to LTA concerns could potentially be eligible to make a significant contribution (up to £200,000 in some cases) by taking advantage of the carry- forward rules should they have earnings to support these, or are in a position to receive an employer contribution. Please note, this is a complex area and you should consult your accountant and financial adviser before making any contributions.

Pension death benefits – Autumn Budget 2024

There is normally, under current rules no inheritance tax on death benefits inherited by the deceased beneficiaries. From 6 April 2027, the majority of death benefits will form part of the deceased member’s estate for inheritance tax purposes. The government is consulting on the proposals until 22 January 2025. Whatever the outcome of the consultation, the proposed changes are likely to evoke planning requirements for pension holders.

Opportunities for planning

Review your current contributions

• Can you pay in more to your pension following the increase to the Annual Allowance?
• Have you fully utilised your Annual Allowance from the previous 3 tax years?
• Could you sacrifice an element of your salary/bonus to boost pension contributions for the current year?

Ensure you are not caught out by tax ‘traps’

Individuals earning over £100,000 will have their personal allowance reduced at a rate of £1 for every £2 resulting in an effective tax of 60% up to earnings of £125,140. Consider making a contribution into your pension to bring your earnings below £100,000 to take advantage of the attractive tax relief available.

For example, an individual earning £125,140 can make a £25,140 contribution as follows:

Contribute £20,112 with the government adding 20% (£5,028).

As a higher-rate taxpayer, you can then claim an extra £10,056 tax relief, resulting in an effective cost of £10,056.

A similar ‘trap’ occurs for individuals who earn over £50,000 and their partner claims child benefit due to the High-Income Child Benefit Charge (HICBC).

Consider restarting contributions following the abolition of Lifetime Allowance

• As mentioned, individuals who have previously stopped contributions into their pensions due to LTA concerns should consider reviewing their plans following the changes announced in the Spring Budget of 2023.
• In addition, members of defined benefit (DB) schemes, such as members of the NHS scheme, who were likely to be caught out by the LTA, could now consider contributing to a private DC pension given the tax benefits on offer.

Tax efficient extraction of company profits

• Directors of a limited company can choose to make pension contributions for themselves, as well as their employees. Making contributions as a director to your own pension is a very tax efficient way of extracting capital from a company, as contributions are not taxed as income for salary or at dividend tax rates.
• Pension contributions are also deemed to be allowable expenses where made ‘wholly and exclusively‘ for the purposes of the business, which generally means that contributions for those that generate revenue for the business are a cost to the business and will potentially reduce corporation tax payable.
• It’s important to remember that you are still restricted to £60,000 per annum, as well as the £1 for every £2 reduction that applies where income and dividends is over £260,000 (down to a minimum of £10,000). Carry forward rules can also be applied where unused allowances are available from the last 3 tax years.