The government encourages workers to save for their retirement by offering a tax top up on savings, but few people know what the limits are.
Generally, the maximum someone can save into a pension each year is £40,000.
That covers saver and employee contributions and is the aggregate for every pension a saver has.
One key rule to remember is your pension contributions cannot come to more than your earnings, so if you are paid £35,000 a year but receive £5,000 from other course, like rents or investments, the maximum you can put into a pension is still £35,000.
Tax relief also counts towards the total, so if you save £8,000, the government adds £2,000 tax relief, making your contribution for the year £10,000.
If you are a higher earner – with an income that works out as £150,000 a year or more, the £40,000 annual allowance is tapered away to as low as £10,000.
Lifetime allowance
The other pension contribution trap is if you have accessed your fund already, the annual allowance automatically reduces to £4,000 a year.
If you do not use your full annual allowance, the unused amount can be carried forward – or added – to the allowance available in the current tax year.
Tax relief on pension contributions is only available if you are under 75 years old.
Until 75, you can still put money into a pension, but the limit is the greater of what you earn plus tax relief each year or £3,600.
Besides caps on how much you can save each year, the government also puts an overall limit on how much you can save into pensions.
The lifetime allowance is currently £1.055 million and increases each year inline with inflation in the same way as the state pension.
How much should I save?
Your total pension funds across all scheme – but not the state pension – are measured against the lifetime allowance when you withdraw money from a fund, when you reach 75 years old or when you die.
If your total pension savings has breached the lifetime allowance, HM Revenue & Customs will demand a 55% penalty charge against the amount exceeding the limit.
How much you should save depends on your finances.
The rule of thumb is save a percentage of your salary equal to half your age when you start setting money aside into a pension.
A 30-year-old should try to save 15% of salary each year until retiring.
