The days of additional rate tax relief on personal pension contributions are numbered, and higher rate relief must also be under threat. But high-earning clients still have the opportunity to take advantage and contribute up to £180,000 into a pension at a net cost of £99,000.
Pension tax relief, the basics
Personal contributions made by relevant UK individuals will normally only be entitled to tax relief on contributions to a registered scheme if the individual has relevant UK earnings. An eligible individual may contribute up to 100 per cent of these earnings – or up to £3,600 gross pa (£2,880 net) regardless of their earnings – and will receive tax relief provided the pension scheme operates tax relief at source. Tax relief is not provided for individuals over the age of 75.
Where a non-employer third party makes contributions on behalf of an individual (such as a spouse or family member), tax relief is based on the individual on whose behalf the contribution was made.
The annual allowance effectively limits the amount of tax-relieved contributions from all sources that can be made to all an individual’s pension arrangements in a year (normally the tax year, although this can depend on the pension input period).This is in effect a secondary test on all contributions and relevant benefit accrual after tax relief has been assessed on personal and/or employer contributions. The annual allowance for the tax year 2015/16 is £40,000.
Calculating tax relief
Tax relief via relief at source is available at a rate of 20 per cent for personal contributions to defined contribution pensions. For contributions above the higher and additional rate tax bands, a further 20 per cent and 25 per cent is reclaimable via self-assessment. All tax thresholds are increased by the gross amount of the personal contribution, hence both 40 per cent and 45 per cent tax relief may be available.
Higher rate tax relief
The pension contribution extends the basic rate tax band. Higher rate tax can be claimed up to the extent it is paid on all income, but always limited to total pensionable income. In all circumstances, relievable contributions are capped by the available annual allowance.
Tax relief within occupational schemes
Tax relief on personal contributions to an occupational pension scheme is normally given under net pay, where contributions are deducted from the employee’s salary before tax is calculated. Tax relief is obtained at source at the employee’s highest marginal tax rates, therefore they are not required to reclaim higher rate tax relief via self-assessment. Employer contributions are paid gross and are deductible as a business expense.
An employer can contribute any amount to a registered pension scheme in respect of one of their employees or an ex-employee, regardless of that individual’s salary.
However, employer contributions to any registered pension scheme will only be able to gain tax relief without limit provided the contributions meet the normal rules of ‘wholly and exclusively for the purposes of business’, the regulations for allowable deductions laid out in the Income and Corporation Taxes Act 1988.