As we approach the end of the tax year, it might be worth considering making contributions toward your pension. There are several good reasons for this which we will cover in this blog, whether some or all these reasons apply to you will depend largely on your current circumstances.
1. Maximise your annual tax relief allowance
This one is at the top of the list for a reason. You get tax relief when you make pension contributions, so any income tax paid is effectively added back into your pension pot, so if you’re a basic rate taxpayer, for every £100 you put into your pension, HMRC will add an additional £25.
This tax relief is subject to an annual limit though; each tax year you are eligible to get tax relief on pension contributions up to 100% of what’s called relevant earnings, up to a maximum of £40k. This limit is known as the “gross” pension contribution, in other words, the figure that includes the top up added by HMRC. If you receive no income, the maximum contribution you can make is £3,600 gross.
In short, by making your pension contributions before April you can maximise the tax relief available to you for this year before it resets again for the next year.
– By using what’s known as ‘carry forward’ it may also be possible for you to use previously unused allowance for the three prior tax years.
2. Avoid the tax charge for child benefit
Making a pension contribution could be the difference between keeping or losing your child benefit (worth up to £2,500 to a family with three children). This £2,500 is effectively cancelled out by the tax charge incurred when the highest earner receives an income exceeding £60,000. There is no tax charge if the highest earner earns £50,000 or less though, as pension contributions reduce ‘income’ as far as HMRC are concerned. One solution could be as simple as transferring existing pension savings from the lower earning partner to the other.
3. Make the most of tax relief at higher rates
So far, we haven’t had a budget announcing a cut to the rate of tax relief on pension savings, though this is unlikely to continue for much longer as the government regularly casts its gaze on pension saving incentives, therefore relief at the higher rates may not be around forever. Annual allowances have been substantially reduced in recent years, to put this in perspective, in the 2010-11 tax year the allowance was £255,00, in the current tax year it is now just £40,000.
Additional and higher rate taxpayers may want to consider contributing an amount now to maximise tax relief at 40%, 45% or 60% while they still can.
4. Cut your tax bill by paying dividends into your pension pot
If you’re a business owner, making a pension contribution may be the best way to reduce your tax bill without receiving any less income. There is no NI due on dividend payments, but dividends are paid from profits AFTER corporation tax and may also be subject to tax once it reaches the Director too. If you make an employer pension contribution to your own pension pot, tax that would have otherwise gone to HMRC will instead be in your retirement savings.
5. Provide tax-free wealth to your loved ones
Pensions are an extremely tax efficient way of passing on wealth to your loved ones after you’re gone as there is typically no inheritance tax payable. Therefore, it is worth considering moving savings into your pension so that you can shelter your wealth from IHT for your loved ones.
A morbid point to end on but the possible tax savings make it worthy of your consideration.
If you’d to talk to us about any of the points mentioned in this blog, do not hesitate to contact us.