Maximise Your Pension Tax Reliefs

We, as Chartered Accountants, always see an increase in contributions made to Self-Invested Personal Pensions (“SIPPs”) in January,  driven by tax planning for owners and companies.

So we thought it may be helpful to have a reminder of some key things to remember when it comes to making your pension contributions.

Personal Pension Contributions

Making contributions to a pension schemes such as a SIPP can be very tax-advantageous, especially if paid for personally.

• Personal contributions made by individuals (under 75 years of age) allows tax relief at an individual’s marginal tax rate (20%, 40% or 45%)
• Pension providers reclaim 20% tax relief directly from HMRC on your behalf
• Additional and higher-rate tax relief is claimed by the individual personally on their tax return
• In any tax year individuals can make personal Gross contributions up to 100% of their earnings or the Annual Allowance, if lower

It is surprising then some 8 out of 10 higher-rate taxpayers did not claim their additional pension tax relief in 2018/19. That over 1 million people missing out on approximately £810 million of tax relief. Why would you not want that?

For example, an individual who makes a gross contribution of £20,000 into their SIPP allows the scheme to reclaim 20% tax relief of the gross contribution, (that’s £4,000), which means the individual only needs to make a payment of £16,000. Add to that a reclaim (for a higher rate tax payer) of the additional 20%. So while making contributions is important so is checking that you claim the additional tax relief.

One can claim tax relief online through the self-assessment process. Tax relief can then be applied as listed below or by writing to HMRC summarising the payments made:

• A rebate at the end of the tax year
• A reduction in the individual’s tax liability; or
• A change to their tax code

Employer Pension Contributions

The tax benefits for an employer contributions differ from personal contributions but are still attractive:

• Employer contributions are paid Gross. No tax relief is reclaimed, and the amount paid is usually not subject to Corporation Tax or National Insurance
• These contributions can be deducted as a business expense
• Any payment needs to satisfy the “wholly and exclusively” test for the purposes of the employer’s trade/business
• Although there is no test against earnings for employer contributions currently, one can still be restricted by the Annual Allowance limits

We can help advice on these aspects.

What About "Annual Allowances", "Carry Forwards" and the "Tapered Annual Allowance"?

As mentioned already any personal contributions can obtain full tax relief up to 100% of their earnings or the Annual Allowance (“AA”), whichever is the lower.

AA limits have changed significantly since April 2006, from a high of £255,000 in 2010/11 to the current lower level of £40,000 in 2021/22 (pre taper – see below). The AA is specific to an individual and applies to payments or benefit accruals for any pension arrangements on that person’s behalf.

Any contributions paid over the AA are liable to a hefty tax charge pension contribution that exceeds the AA.

Whether the contributions were made personally or paid by an employer (or even as a benefit accrual in a defined benefit arrangement), the liability for settling any AA tax charge rests with the individual. The amount charged depends on the individual’s income tax rate (20%, 40% or 45%) and is not a very nice surprise if incurred!

Carry Forwards

There is often potential for individuals to carry forward any unused AA from the previous three tax years. This can amount to as much as £160,000 of allowances. We often help clients save a lot of tax using these rules, while beefing up their pension pots.

One fundamental point is that in order to carry forward AA’s you must be a member of a pension scheme for the year you wish to carry forward from.

Tapered Annual Allowance ("TAA")

Although it will not affect many but the highest earners, the TAA still needs to be monitored.

Since 6th April 2020, the TAA applies were a person has a “threshold income” over £200,000 and an “adjusted income” of over £240,000. The taper sees that person AA reduced by £1 for every £2 of adjusted income over the £240,000, but the minimum AA never falls below £4,000.

The question of “what is threshold and adjusted income?” is one we address frequently. Broadly, threshold income is a person’s net income (usually salary, bonuses, rental income dividends and pension contributions). While, adjusted income then adds in the value of any employer contributions. (the purpose of this is to stop people avoiding the lower AA by exchanging their salary for employer’s pension contributions).

You can find more details about the “Tapered Annual Allowance” on the HMRC website.

A Bit Of Advice...Don't Leave Contributions To The Last Minute!

While most people may make contributions ahead of any deadlines, we still receive so many calls saying that they want to make a contribution before their company year-end… which happens to be tomorrow! Not a good way to plan! We will always assist where we can.