FAQ - How does pension tax relief work?


FAQ - How does pension tax relief work?

Pensions benefit from favourable tax treatment – to encourage us to put more into our pensions, the Government gives ‘tax relief’ on the contribution. This essentially means that some of the money that you would have paid in income tax to the government instead goes into your pension. 
 
How much tax relief will I receive on my pension contributions? 
You can put as much as you’d like into your pension each tax year but there are annual allowances and lifetime allowances which limit the amount of tax relief you will receive.  

As I write this article, the rules are such that you will receive tax relief at your marginal income tax rate on any pension contributions. These are limited to 100% of your earnings or the £40,000 annual allowance (in the 2018/19 tax year), whichever is lower. 

How can I get tax relief on my pension contributions? 
The way in which you get tax relief depends on the type of pension you are saving into. There are two main ways this is given; either through a ‘relief at source’ or ‘net pay’ basis. 

  • Relief at source basis – when you personally pay a pension contribution into your pension, 20% basic rate tax relief will automatically be added. If you are a higher or additional rate taxpayer, you will reclaim the additional tax relief via your self-assessment return to HMRC. For an example of how this works in practice;  
     
    - if you are a non-tax payer (i.e. a non-working spouse, someone not in employment or a child) you are eligible for basic rate tax relief, but this is limited to personal contributions of £2,880 per year. The government will top that up to £3,600 through tax relief. This means a £100 contribution will effectively cost you £80. 
     
    - if you are a basic rate tax payer (20%) contributing £80, the government contributes £20 making the total pension contribution £100. This means a £100 contribution will effectively cost you £80. 
     
    - if you are a higher rate tax payer (40%) contributing £80, the government again contributes £20 making the total pension contribution £100. You will then need to reclaim the additional £20 tax relief due to you from HMRC through self-assessment. This means a £100 contribution will effectively cost you £60. 
     
    - if you are an additional rate tax payer (45%) contributing £80, the government again contributes £20 making the total pension contribution £100. You will then need to reclaim the additional £25 tax relief due to you from HMRC through self-assessment. This means a £100 contribution will effectively cost you £55. 

  • Net pay basis – this option is only available to you if you make pension contributions via your pre-tax salary through your employer. Your pension contributions will be deducted from your gross pay before income tax is applied; which is a significant benefit to higher or additional rate taxpayers. 
     
    You will immediately be given tax relief at your marginal tax rate (i.e. 20%, 40% or 45%) unlike the ‘relief at source’ method where you have to reclaim further tax relief as a higher or additional rate tax payer. 

As well as tax relief on contributions going into your pension, once your contributions are invested into pension funds, they grow largely free of taxes. This favourable tax treatment of pension funds means that they should grow faster than equivalent taxable investment funds. 

Tax relief and pensions can seem a complex area; we are always very happy to arrange an initial meeting, at no cost to you, to provide you with detailed advice on the area, particular to your circumstances and future retirement goals. 

How do I get professional independent pension advice? 

Please contact us at info@martin-redmanpartners.co.uk or call us on 01223 792 196 to arrange an initial appointment to discuss your pension and retirement planning with one of our Independent Financial Advisers.   

Martin-Redman Partners are a team of experienced Independent Financial Advisers who can advise on your personal or business financial arrangements. We have been building trusted relationships with clients for many years by articulating clear and tailored recommendations in areas ranging from investments to retirement planning, to complex estate planning advice.  
 
We offer independent financial advice from the whole of market and are not limited to offering financial products from one or a limited range of product providers (as ‘tied-agents’ or ‘multi-tied agents’ are). 

The information contained is for guidance only and does not constitute financial advice. It is based on our understanding of UK legislation, whether proposed or in force, and market practice at the time of writing. Levels, bases and reliefs from taxation may be subject to change. Accordingly, no responsibility can be assumed by Martin-Redman Partners its officers or employees, for any loss in connection with the content hereof and any such action or inaction.