Pensions represent one of the most tax efficient ways to save in the UK. However, changes in legislation over the years have resulted in increased complexity, as well as restrictions on the maximum tax relievable amount that can be contributed.
Pensions represent one of the most tax efficient ways to save in the UK. However, changes in legislation over the years have resulted in increased complexity, as well as restrictions on the maximum tax relievable amount that can be contributed.
Personal, employer and third-party contributions all count towards an overall pension’s allowance in the tax year. For defined contribution arrangements, the total contributions inclusive of tax relief received at the source would be the amount contributed into the pension for the tax year. For defined benefit schemes, the rules are different.
When deciding on an optimum contribution level of pension savings, the tax relief rules need to be considered alongside annual allowance limits.
For contributions into a money purchase arrangement, such as a personal pension, tax relief is limited to the higher of £3,600 gross per tax year or 100% of relevant UK earnings. Basic rate tax relief is received at source on personal contributions. Higher and additional rate taxpayers are then able to claim additional tax relief via self-assessment.
Contributions made via an employer are not restricted by earned income, however they do need to be wholly and exclusively for business purposes. Employer contributions benefit from corporation tax relief as it is deemed a business expense.
Since April 2016, the standard annual allowance has been £40,000 per tax year. There are two circumstances where an individual’s annual allowance could be reduced and therefore be less than the standard allowance available:
Provided an individual was a member of a UK registered pension scheme in the relevant tax years to be carried forward, there is scope to carry forward unused allowances from previous tax years. Once the current year allowance has been maximised, carry forward of unused allowances is automatic and utilises unused allowance from the earliest of the three tax years before more recent years.
Tax relief however is only granted in the year in which contributions are made, even where unused allowances from previous tax years are carried forward.
To establish the impact of defined benefit pension schemes on the annual allowance, the pension input amount is required. This is the capitalised value of increase in benefit accrued at the end of the tax year in comparison to the start of the tax year. Quite often, the accurate figure would need to be provided directly by the pension scheme administrator.
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