What is NHS Pension Scheme Pays?
The Scheme Pays system enables you to ask the NHS Pension Scheme to pay an annual allowance tax charge on your behalf.
The annual allowance which caps the amount of pension savings or pension growth that people may make each year before tax charges apply is controversial. But while calls for further reforms continue, members of the NHS Pension Scheme who exceed the annual allowance need to consider how to pay the tax charge arising as a result. It is possible to ask the scheme to pay this tax charge on your behalf in the form of a loan which is then clawed back by reducing your pension benefits at the time when you draw your pension.
How does NHS Scheme Pays work?
First, some basics. In defined benefit schemes such as the NHS Pension Scheme, the critical figure for working out whether you’ve exceeded the annual allowance is the pension input amount, rather than the amount you and your employer have contributed to the scheme over the year. The pension input amount is the growth in the value of your benefits taking into account inflation over the pension input period (1st April to 31st March in the NHS Pension Scheme). In other words it is the difference between the value of your NHS Pension Scheme benefits on the first and last days of the tax year.
It’s also important to recognise that in practice, there are two types of Scheme Pays facilities. With “compulsory Scheme Pays”, where certain HM Revenue & Customs criteria are met, the scheme has to offer the facility; by contrast, with “voluntary Scheme Pays”, pension schemes have the option of offering the facility – and may set their own criteria.
What’s the difference between voluntary and mandatory scheme pays?
Voluntary Scheme Pays
In the NHS Pension Scheme, the voluntary Scheme Pays facility is available if you are a member of both the 1995/2008 NHS Pension Scheme and the 2015 NHS Pension Scheme. You can use the facility if your pension input amount for both schemes when added together exceeds your annual allowance.
Mandatory Scheme Pays
Mandatory Scheme Pays, meanwhile, is only available if your pension input amount in either the 1995/2008 NHS Pension Scheme or the 2015 NHS Pension Scheme exceeds your standard £40,000 annual allowance while in Scotland your annual allowance charge must also be more than £2,000. The final condition is that you must submit your SPE2 form before the deadline.
Bear in mind that you may be able to use mandatory Scheme Pays to cover parts of your tax charge not eligible for voluntary Scheme Pays. But the maximum amount of the charge that the facility will pay under Mandatory Scheme Pays is based on the tax relating to pension input amounts above the standard annual allowance of £40,000 – not the lower allowances that some scheme members, such as those with higher taxable incomes, will have.
It’s also important to understand that once you’ve made a Scheme Pays application, you can’t change your mind and withdraw the application. However, you can amend the amount detailed for Scheme Pays and the scheme administrator must receive the member’s amendment request no later than the 31st July that follows the end of the period of 4 years from the end of the tax year to which the member’s liability relates.
When is the deadline for requesting Scheme Pays from NHS Pensions
This facility is known as “Scheme Pays” and to take advantage of it, you will need to fill out a Scheme Pays Election (SPE2) form. These forms must be submitted to the scheme administrator by 31st July following the January deadline for declaring the annual allowance charge on your self-assessment tax return. For the 2019-20 tax year, for example, where the self-assessment deadline is 31st January 2021, the form must be submitted by 31st July 2021.
How Scheme Pays affects your pension benefits
Not everyone will want to choose Scheme Pays because there will be an impact on your pension benefits. Your pension at retirement will be adjusted downwards to reflect the cost of the tax charge met by the scheme; in the 1995 section of the scheme, members’ lump sum entitlements are also affected.
In England, Wales and Northern Ireland, the scheme actuary applies interest to the charge that the scheme paid on your behalf. These currently accrue in line with consumer prices inflation plus 2.4 percentage points. They are calculated from the January after you elected for Scheme Pays until you retire. The actual reduction will then depend on when you retire – and possibly why (for example, if you retire on ill-health grounds, the calculation is done differently).
In Scotland, the scheme actuary also applies interest charges, but these are currently levied only at the prevailing rate of consumer price inflation. However it’s worth noting that the factors in Scotland for calculating the reduction in pension benefits are different and therefore the overall effect on the reduction is broadly similar in England, Wales, Northern Ireland and Scotland.
Should you use Scheme Pays?
There are several other points to consider as you weigh up whether to use Scheme Pays rather than paying the tax charge yourself:
- Benefits payable to your dependants are unaffected, and will be based on your pension entitlements before any reduction is made for Scheme Pays;
- The value of your NHS Pension Scheme benefits for the purposes of the lifetime allowance (above which tax charges may apply) is the reduced amount after Scheme Pays;
- You can use Scheme Pays in more than one tax year, but each use is treated in isolation and will further reduce your benefits in retirement so you need to be careful here;
- You can only make Scheme Pays elections prior to your retirement.
Can deferred NHS Pension Scheme members use Scheme Pays?
Note that deferred members of the NHS Pension Scheme may also be able to use Scheme Pays. If you’re a deferred member through the whole of a pension input year, this won’t apply since you will not have accrued any pension benefits during this period. But if you were an active member for some of the year, you may have incurred an annual allowance tax charge and you will be eligible for Scheme Pays in the normal way.
Remember that deferred members can still make use of the carry-forward rules, which allow savers to use unused annual allowance from the three previous tax years to offset savings over the annual allowance in the current years. For years where you were deferred in full, your carry forward will typically be the full annual allowance of £40,000 although this will need to be checked carefully as those with higher levels of taxable income may be affected by tapering. As a result affected individuals may have a lower annual allowance, resulting in a lower sum being available to carry forward.
Tapered Annual Allowance & Scheme Pays
Specific rules for the tapered annual allowance, which affects higher earners, have been introduced from the 2020-21 tax year onwards. We will look at these in a separate newsletter.
Finally, it’s worth noting the Government has recently made certain special provisions in relation to Scheme Pays:
- For 2019-20, NHS England and the Welsh Government have both agreed to meet the cost of Scheme Pays for clinician members of the NHS Pension Scheme. For these members, opting to use Scheme Pays will not result in any reduction to pension entitlements (in practice, NHS England and the Welsh Government will repay the reduction when you retire).
- In Scotland, NHS Pension Scheme members were given the option of temporarily opting out of the scheme to head off annual allowance problems, with a financial reimbursement offered instead. This option has now expired. No special arrangements apply in Northern Ireland.
- This year, to reflect the turmoil caused by Covid-19, the Government has extended the deadline for submitting SPE2 forms for voluntary Scheme Pays applications relating to the 2018-19 tax year until 31st October. This applies in all nations.
Content correct at time of writing and is intended for general information only and should not be construed as advice.