- The government yesterday confirmed that it will finally start paying lower earner’s pension payments due from the 2024/25 tax year ‘over the coming months’, until early next year
- It first announced its intention to address the ‘lower earner’s anomaly’ in November 2021
- This is a long-standing issue where low earners paying into a pension scheme operating tax relief on a ‘net pay’ basis receive less tax relief than those paying into a ‘relief at source’ scheme
- The government has previously estimated that around one million people could benefit, with an average annual payment of £70 a year
- Eligible individuals do not need to apply, as HMRC will contact them directly
Rachel Vahey, head of public policy at AJ Bell, comments:
“It is a scandal that around one million of the UK’s lowest earners have missed out on valuable pension tax relief because of the so-called ‘net pay anomaly’.
“While the government deserves credit for finally delivering a solution and putting it into legislation, the first payments to those affected have been a long time coming. Those affected won’t get to see their money until later this year or into next – a year after it was originally promised, and over a decade after the problem first came to light.
“Worse still, it is people on the lowest incomes – three quarters of whom are women – who have been hit hardest by this administrative failure.
“For those affected, the money will be paid directly into their bank account rather than into their pension. They can, of course, choose to put it into their retirement savings if they wish.”
Background
What is the ‘lower earner’s anomaly’?
This is a quirk in the UK pension system that can leave some lower-paid employees with less pension benefit than people earning slightly more.
In simple terms, it arises because of how tax relief and pension contributions interact for workers on different earnings levels. Some low earners who earn below the personal allowance tax threshold paying into some workplace pension schemes can miss out on the benefit of tax relief on their pension contributions.
This creates an unfairness in that someone earning a little more can receive a greater overall pension benefit than someone earning less, despite making similar or even smaller contributions.
How does this quirk arise?
It arises because of the differences on how tax relief is claimed by different types of pension scheme.
- Under a net pay arrangement, the employee’s pension contribution is deducted from their pay before income tax is calculated and deducted.
- Under relief at source, the employee pays their contributions from take home pay, and the pension provider claims 20% tax relief from HMRC to add to the pension pot.
Someone earning less than the personal allowance would not pay tax on their earnings, and therefore if contributing to a net pay arrangement receives no tax relief on that pension contribution. But if they paid into a relief at source pension, such as a SIPP, then they could receive a 20% tax relief top up.
Example
Emily earns £10,000 a year and pays £80 into her pension plan.
- Relief at source: £20 tax relief is added and £100 goes into the pension.
- Net pay: £80 is deducted from gross pay, but because Emily pays no income tax, there is no tax relief and only £80 goes into the pension.
Two people on the same low income, making the same pension contribution, could historically receive different outcomes simply because their employer’s pension scheme used a different method of providing tax relief.
What is HMRC doing about this?
The government is introducing a low earner’s pension payment to address this, which applies from the 2024/25 tax year onwards. It will give low earners paying into net pay scheme a top up broadly equivalent to the tax relief they would have received in a relief at source scheme.
HMRC has announced that payments will start to be made gradually over the coming months and into early 2027.
How many people are affected?
The government previously estimated that approximately one million people could benefit with an average payment of around £70 a year.
The government will identify who is affected by taking account of a wider range of reliefs, allowances and nil-rate bands when determining eligibility.
How do people get their payment?
HMRC will contact eligible individuals directly. Employers, payroll teams and pension scheme administrators do not need to apply, assess eligibility, amend payroll records or contact HMRC on behalf of individuals.
Individuals do not need to contact HMRC. Eligible individuals should wait to be contacted by post or through their personal tax account and follow the instructions provided to accept their payment.
Payments do not affect entitlement to benefits or create National Insurance reporting requirements.
