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Pension Payments Can Have a Sting in the Tail

9 October 2018
Jan Friend
Reducing Tax

Make Pension Payments before 6 April but High Income Clients Beware the Sting in the Tail

 Making a personal pension contribution before the 6th April can be extremely tax efficient. Higher rate tax payers should be able to get higher rate tax relief on their personal pension contributions. For directors with their own companies employer pension contributions are also a highly tax efficient way of extracting profits from a company. But in both cases there are restrictions.

There are two sets of rules to consider:

  1. Net relevant earnings. As a general rule your personal pension contributions are always restricted to your net profit for the self-employed and salary plus benefits for employees, although anyone can contribute up to £3,600 gross annually, regardless of their income level.
  2. 2. Annual pension limit, currently £40,000. Furthermore unused relief from the previous three tax years may be utilised once the current £40,000 limit has been used. However, unused relief from 2015/16 will lapse on 6 April 2019.

If, for example, you have £10,000 unused allowance from 2015/16 you would need to make pension contributions of at least £50,000 by 5 April 2019 to avoid losing your 2015/16 relief. Remember also that pension contributions continue to qualify for higher rate tax relief and may help to reduce your payments on account.

But for those with income in excess of £110K in the current tax year – there may be a sting in the tail.

From 2016/17 if you and your employer make pension contributions above £10K then these are added to your total earnings to give what is called “an individual’s adjusted income”. If this exceeds £150K then potentially there is a restriction as your annual allowance for pensions of  £40,000 is tapered by £1 for every £2K that the adjusted income exceeds £150,000, up to a maximum of £30,000 taper, which will arise at income of £210,000, leaving the taxpayer with an annual allowance of £10,000. Any individual who has made excess pension contributions which will give rise to what may be an unexpected tax liability!

For example Mary has a salary of £140K. Her employer pays £35K into her pension pot as an employer pension contribution. Her adjusted Income is therefore £175,000. This exceeds the £150K threshold by £25K so the annual allowance is reduced from £40K to £27.5K (abatement of 50% on £25K) which means there is an excess pension payment of £7.5K (£40K limit less £12,5K= £27.5K limit compared with £35K pension contribution). There will be no issue if Mary has unutilised relief from the previous 3 years but if there is none then the £7.5K will suffer a 55% tax charge! This tax liability can be paid from Mary’s pension pot.

This is a very complex area, so for high income earners, it is essential that you get advice from a pensions adviser. If you need details of a suitable pension adviser then please contact us.

The content in this blog is correct as at 9th October 2018. See terms and conditions.

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