Increasingly I have found myself explaining to different clients how higher or additional rate tax relief works for their pension contributions. If you are in an occupational pension scheme it is usually all done for you. But if you have a Group Personal Pension, Personal Pension or Self-Invested Personal Pension you need to claim further tax relief over the basic rate of 20%. Let’s say you pay in £800 to your pension pot. Your pension provider will then boost your contribution by the 20% basic rate tax relief (to £1,000 in this example) either instantly or within a few weeks depending on when they claim this back from HMRC.
Now, in order to claim the extra 20% (for 40% tax payers) you need to declare the amount of gross pension contributions (£1,000 in this example) via your Self-Assessment tax form. This will then result in lower tax bills based on an adjusted tax code for the rest of the tax year and possibly the next depending on how much of a rebate was due. It can also potentially result in those earning £120,000+ regaining their Personal Allowance (the first £10,000 of income where there is no tax to pay) as their gross taxable income is reduced.
With the Government’s proposed ‘freedom and choice in pensions’ legislation coming into force from April 2015, it has been noticeable that retirement planning and tax efficiency are firmly on the higher rate taxpayer’s radar. Many experts in the pension industry are predicting (and advocating) the reduction of Higher/Additional Rate Tax relief on pension contributions. The argument being that a flat rate system giving tax relief at a rate of say, 33%, would encourage more people to save for retirement without providing a bigger tax sweetener the more you earn. In a time of austerity it could also represent a tempting target for politicians to save some money -a low hanging fruit?
So is this likely? When might it happen, if at all? This is not clear, as in practice, it could mean a revamp of pension provider’s computer systems which is probably not a small job. Either way, if you are a high earner, NOW is an ideal time to review your affordability and retirement strategy with an Independent Chartered Financial Planner. The Government’s new pension legislation, giving people more freedom of choice in taking their pension benefits, has generally been well received by the public and the industry. A cynic might argue that a flat rate tax relief policy on pensions, with a degree of unpopularity for a proportion of voters, is easier to implement in the first year of a new parliament following the election in May….
Remember there are limits to what you can contribute to your pension depending on your earnings, the Annual Allowance (currently £40,000) and the amount of unused allowance you are able to ‘carry forward’ from the last three tax years. The Lifetime Allowance, whereby tax relief is given in respect of a pension pot of £1.25million, also needs to be considered.
RMT Ref: 95/02.15/SL