Question:

Are pension compensation payments paid into a scheme regarded as third-party contributions? If so, presumably they benefit from tax relief?

Answer:

To begin with, let me give some background to pension compensation payments. These can be awarded in a number of scenarios, such as where an individual has suffered due to the poor administration of a pension scheme or the poor performance of an investment. Payments may also be made where the individual received poor advice or is a victim of mis-selling.

Where the individual requests that the compensation is paid into their pension savings, it is regarded as a third-party payment and so attracts tax relief. The pension provider will claim relief at the basic rate (if the member is a higher or additional-rate taxpayer, they can claim additional tax relief through the normal channels). The exception is where compensation is due and paid directly to a scheme, perhaps because of a pricing error, and in these instances the payment is not considered a contribution and so no tax relief is due. Compensation payments can also be made directly to the member and, where this is the case, they are not regarded as unauthorised payments.

There are a few important points to note about pension compensation payments paid into a scheme. Firstly, as they are considered contributions, they count towards the annual allowance, money purchase annual allowance or any tapered annual allowance. The individual also needs to have sufficient relevant UK earnings to cover the payment. In addition, as the payment into the pension is considered by HMRC to be a relievable pension contribution by or on behalf of the individual, it will trigger the loss of enhanced protection or fixed protection where this became effective after 15 March 2023. It is because of these complications that compensation payments are sometimes paid to the member rather than into their pension scheme, even though these payments don’t benefit from tax relief.

Important information

This article provides information and is only intended to provide an overview of the current law in this area and does not constitute financial advice, tax advice or legal advice, or provide any recommendations. The value of benefits depends on individual circumstances. The minimum age clients can normally access their pension savings is currently 55, and is due to rise to 57 on 6 April 2028, unless they have a lower protected pension age. Different options may have different effects for tax purposes, different implications for pension provision and different impacts on other assets and financial planning.

Issued by Financial Administration Services Limited, authorised and regulated by the Financial Conduct Authority. Fidelity, Fidelity International, the Fidelity International logo and F symbol are trademarks of FIL Limited.

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