Howard Goodship, IFA Ringwood - Saving tax through pension contributions

Friday 22 April, 2022

Understanding Investments – Saving Tax Through Pension Contributions 

Pensions is not a word which excites most people! However, I urge you to spend 5 minutes of your time reading the following brief article as pensions can provide extremely effective, tax-efficient investment opportunities. Pensions are also relevant for more people than you might initially think. 

What tax savings opportunities do pensions offer? 

The introduction of auto-enrolment has resulted in more people saving towards their retirement through a pension than ever before. It has also encouraged competition amongst the pension providers, with an associated reduction in charges. A very good outcome for consumers.  

But it’s the tax saving opportunities pensions can offer which I would like to focus on, and I have highlighted some examples below to illustrate. 

Employees, Self-Employed and Company Directors: 

Each can personally contribute 100% of their relevant UK earnings into their pension (or £3,600 if no earnings) and these contributions will attract tax relief. The annual allowance limit of £40,000 (which covers both employee and employer contributions) should also be considered, which can be tapered back to as little as £4,000 for high earners. Tax relief is available at a person’s highest marginal rate i.e. anything between 20% and 45% (even non-taxpayers receive 20% tax relief on contributions to pensions operating ‘relief at source’ such as personal pensions). 

“Carry-Forward” may be available for the previous 3 tax years if the individual had a pension plan in place in those years. To utilise this, the current tax year’s annual allowance must be fully used and then it is possible to go back 3 tax years to utilise any unused allowances. 

Companies can also contribute to a pension plan on behalf of their employees/directors, and the company’s contribution is added to personal contributions when considering the annual allowance. 

Many of my employed clients aim to avoid paying higher or additional rate tax on their salary and bonus. Pension contributions can assist in enabling them to mitigate these tax liabilities. 

Company directors and their accountants often seek my advice on how to draw profits from their business tax-efficiently. Pension contributions are classed as a business expense so, if an employer’s pension contribution is made instead of a dividend payment to the director, this can usually save them both corporation tax on the company profits and personal dividend tax on the contribution. 

Retirees and Family Contributions: 

Even people who don’t work can benefit from tax relief on pension contributions up to £2,880 per annum as the government top this up to £3,600. That’s a 25% return on the original £2,880 from the tax relief alone.

Many of my older clients help their adult children and grandchildren save for retirement, especially if they have surplus income and/or capital. 

Pension contributions made by another person may still qualify for tax-relief at the recipient’s highest marginal rate. For example, an adult child may be a higher rate tax- payer and a pension contribution paid by their parent (who may not pay tax or only pay basic rate tax) could qualify for relief at the higher rate. This can also be effective from an inheritance tax perspective as the pension contribution is classed as a lifetime gift. This is subject to the recipient having relevant earnings and not already using their full annual allowance. 

There is no denying pension legislation is complicated, and the devil is in the detail. The examples above are broad and are not meant as financial advice. 

In Summary...

If you would like to learn more about saving tax efficiently into a pension or discuss your personal situation, our financial planners in Ringwood, St Albans, Harpenden, Ware, North London, Chippenham, Stafford and Leeds / Bradford would be delighted to meet for a free, no obligation initial chat. 

Your local Lonsdale indepdendent financial advisera are available to offer impartial pension or retirement advice.  For anyone saving into a pension or requiring a pension review read more about Pension Planning or Retirement Advice here.

The value of an investment and the income from it could go down as well as up. The return at the end of the investment period is not guaranteed and you may get back less than you originally invested. The contents of this article are for information purposes only and do not constitute individual advice.

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