Saving into your pension is a wise financial move for many reasons. For one thing, contributing regularly gives you the best chance of reaching your savings goals over time. For another, it gives your pension investments time to grow.
But one of the biggest benefits of pension saving, and one of the main reasons we advise our clients to consider their contributions, is the opportunity for tax relief.
Everyone is entitled to tax relief on their pension contributions, at different levels depending on your income tax rate. This is applied automatically at the basic rate of 20%.
But if you’re paying tax at the 40% higher rate (on income over £50,000) or the 45% additional rate (on income over £150,000, or £125,140 from April 2023), you might need to claim the remaining tax relief yourself.
What your employer does and what you need to do
You’ll get tax relief on your pension contributions in one of two ways: relief at source or net pay.
With relief at source, your employer deducts tax from your earnings, before deducting your pension contribution and sending it to your pension provider. Your provider then claims 20% relief from the Government, which they add to your pot.
To receive higher-rate tax relief on pensions, you’ll need to claim the extra 20% (or 25% for additional-rate tax relief) through your self-assessment tax return.
With the net pay method, your employer deducts your pension contribution from your pay before your income is taxed. This is often a more tax-efficient option, and might be done through a salary sacrifice scheme or another method – talk to us for advice on how to put this in place.
How much can I contribute?
There’s no limit to the amount you can contribute to your pension, but there are some limits on the amount that’s tax-free.
Firstly, you’ll only receive relief on contributions worth up to 100% of your annual earnings.
Secondly, you may have to pay a tax charge if your contributions in a year exceed the annual allowance. This currently stands at £40,000 for most people, but in some circumstances your annual allowance might be reduced.
Within these limits, you can get up to 40% tax relief as a higher-rate taxpayer or 45% if you’re an additional-rate taxpayer.
How to claim additional higher rate tax relief on pensions
Unlike basic-rate tax, you won’t receive full relief automatically as a higher or additional-rate taxpayer.
Some other important details to consider when looking at higher rate tax relief on pension contributions include:
- Carry-forward: It’s possible to ‘carry forward’ some of your annual allowance if you don’t use all of it in a tax year. This applies to the previous three tax years and is well worth considering when you’re planning your contributions. You can use HMRC’s pension annual allowance calculator to check whether you can do this.
- Annual allowance taper: If your ‘adjusted income’ is over £240,000 and your ‘threshold income’ is over £200,000 you might have a reduced annual allowance. (These limits were lower before April 2020, at £150,000 and £110,000.)
- Scottish tax rates: Income tax rates are different in Scotland, and so is the amount of relief you can receive above the basic rate. Basic-rate taxpayers in Scotland stand to benefit, however, as their provider can still claim 20% even if they pay tax at 19%.
In this inflationary world, investment advice is more important than ever to ensure your savings can grow. But it’s also essential to consider your attitude to risk, and how your overall strategy reflects your financial aims.
For a full picture of how much you could save, and tailored pension advice to suit your financial position, talk to us.