I am thinking of making contributions to pension fund within the UK.
But are you confused as what income or relevant earnings or level of pension contributions that count towards claiming pension tax relief. What amount can I pay in within the tax year ?
As this subject, appears to be quite confusing and overwhelming.
So what limits apply ?
Firstly, let’s look at it in 2 parts.
Anyone can contribute to a workplace or private pension, even they are not in employment.
An individual not in employment that has no earnings they can contribute an amount of £ 2,880 (net). This will be topped up by pensions tax relief to £ 3,600 per annum per tax year.
This will normally be claimed by your pension provider from HMRC. It will then be added into your pension a few weeks later.
Everybody can pay contributions into a pension scheme up to the age of 75 and claim tax relief on those contributions.
An individual can make contributions on behalf of a child. Although this is limited to £ 3,600 per annum, including tax relief provided by HMRC.
So what do we class as relevant earnings ?
The following are classed as relevant earning sources:
- a salary from an employer, including bonus, overtime and commission provided it is taxable.
- income from a trade, profession or self-employed business acting as a sole trader or partner.
- taxable benefits in kind, such as medical insurance, company cars etc.
- earnings from overseas crown employment or have a spouse with such earnings.
- they were resident in the UK at some point in the past 5 years immediately before the tax year in question. Also they were resident in UK when doing that scheme.
- Are resident in the UK some time during that tax year.
- Income from UK or EEA furnished holiday letting business.
So what sources are not included ?
- Income from Buy to let rental income
- Interest received from Bank or building society savings
- Dividend income.
- Income payable from pensions
Link to GOV.uk, over pension contribution limits:
https://www.gov.uk/plan-for-retirement
What about a redundancy settlement ?
If you receive a redundancy payment, normally the first £ 30,000 is tax free.
So it won’t qualify as earnings for income tax purposes. However any figure above this amount will be classed as qualifiable relevant earnings.
What is my annual contribution threshold ?
If employed, they can contribute up to £ 60,000 per annum up to the Annual Allowance limit.
Or if they are earning a lower salary, it is then restricted to their salary.
So if they are earning £ 30,000 per tax year, their limit is £ 30,000
You pay more in that your AA (annual Allowance), you may be subject to a tax charge if in effect reduces the tax relief received above this level.
As long as you were a member of a pension scheme at that time. You can also use any unused allowances from the previous 3 years. This could be very beneficial if you were to receive a sudden windfall or bonus and you wanted to increase contributions into a pension to create a larger pot within a very tax efficient wrapper.
Can my level of contributions be restricted ?
If you happen to access a flexible pension income from a Defined Contribution (DC) pension. You will trigger something called the Money Purchase Annual Allowance (MPAA).
Your annual contributions are then restricted to £ 10,000 for tax relief. This will apply for each tax year in future.
This isn’t an issue or consideration for most people, but it may be for high earners. For most people it’s a simple admin procedure.
A pension provider will give you a statement or certificate if triggered and you normally have to give that form to current pension scheme within 91 days, or a small tax charge may apply.
See link attached for greater information on MPAA.
How does tax relief apply to pension contributions ?
Relief at source method.
Say a basic rate tax-payer pays in a pension contribution of £ 80 from their PAYE after tax is deducted. The pension provider will then claim £ 20 in tax relief.
So a gross contribution of £ 100 is then paid into the pension pot.
A higher rate tax-payer can then claim £ 20 extra in tax-relief through their self-assessment form. Or via contacting HMRC, whereby a contribution of £ 100 will only cost them £ 60.
link for grater information on gov.uk:
https://www.gov.uk/money/business-tax-pension-scheme-administration-administering-a-pension-scheme
Net pay method.
Somebody may make a contribution from their pay before tax is deducted.
Again say £ 100 their taxable pay is then reduced. So they don’t pay take on that level of contribution.
They will automatically get tax relief at their highest marginal tax rate.
So let’s say somebody is earning £ 30,000 per annum if they pay £ 2,000 into that scheme.
Their taxable pay is rescued to £ 28,000 so they will then pay less tax and NI on the lower salary.
link for greater information on gov.uk:
https://www.gov.uk/government/publications/pensions-relief-relating-to-net-pay-arrangements
A personal illustration:
I myself pay into my workplace pension through a simple Auto enrolment pension scheme. Whereby I pay in 4%, my employer will pay in 3% and HMRC will add tax relief of 1%. So 8% in total as per minimum Auto Enrolment contribution levels.
This is done automatically by my employer and my salary is reduced through PAYE as a basic area tax payer. So I don’t have to do anything extra.
I also make contributions in my own personal pension (SIPP). Whereby I can choose the level of contributions and my own investments, shares or funds.
By doing so, I make monthly contributions of £ 250 per month on the 1st of each month.
My SIPP provider will the claim tax-relief on my behalf and I will receive £ 62.50 tax relief as free money. This is normally added into my account during the following month.
Hopefully the above has gives you an idea of the simple mechanics of making contributions towards a UK pension scheme.
It made be useful to look at your annual statements.
What levels of contribtutions are you and your employer making. Look at the recent performance, are you in a default fund and how is it performing. Or are you picking your own funds and do you review them on regular basis.
Look at the illustrations provided, what size may your pension pot be in say 10, 15 or 20 years time when you may decide to access.
So start getting actively involved within your future. Nobody should care more about your money than you !
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