Although there continues to be plenty of speculation over possible pension tax relief cuts, as things currently stand, paying into a pension generally remains a tax-efficient way of saving for old-age. Given that there may well be future changes in this area, it might be beneficial to consider starting, or topping up, pension plans sooner rather than later.
Most employer pension contributions will count as allowable business expenses, so a company could currently save up to 19% in corporation tax if it makes qualifying contributions on behalf of its employees. This may be particularly beneficial in a family-owned company where pensions for family members can be built up whist saving both the investor and the company money. In order to qualify for a deduction, the pension contributions should be ‘wholly and exclusively’ for the purposes of business. HMRC will check for evidence that this is the case, for example whether other employees are receiving comparable remuneration packages.
Subject to certain conditions, tax relief is currently available on pension contributions at the highest rate of income tax paid, meaning that basic rate taxpayers get relief on contributions at 20%, higher rate taxpayers at 40%, and additional rate taxpayers at 45%. In Scotland, income tax is banded differently, and pension tax relief is applied in a slightly different way.
A contribution of £100, will currently only cost a basic rate taxpayer £80. The contribution is deemed as being made net of tax (£80) and the pension provider claims the tax relief (£20) from the government. The gross contribution (£100) is invested in the pension plan. Higher rate and additional rate taxpayers need only to pay £60 and £55 respectively to achieve the same £100 of pension savings.
Pensions are a particularly tax-efficient form of savings since nearly everyone is entitled to receive relief on contributions up to an annual maximum regardless of whether they pay tax or not. The maximum amount on which a non-taxpayer can currently receive basic rate tax relief is £3,600. So, an individual can pay in £2,880 a year, but £3,600 will be the amount actually invested by the pension provider. Higher amounts may be invested, but tax relief will not be given on the excess. Any tax relief received from HMRC on excess contributions may have to be repaid.
It’s worth noting that where family members are employed and pension contributions paid by the company, there needs to be a genuine business reason for it. The family member should be paid a commercial amount for work that they have actually undertaken, and the company should be able to prove that this is the case.
A spouse/civil partner or other family member may be employed to help with a business. If they are paid a salary and they are not a director, they may be an ‘eligible worker’, which means the business may need to automatically enrol them into a pension scheme. A worker that is eligible to join a workplace pension is an employee aged between 22 and the state pension age that is paid over £833 per month or £192 per week.
If they are a director, there may still be enrolment obligations (see the Pensions Advisory service at www.pensionsadvisoryservice.org.uk for further details). The minimum contributions employers and their staff must pay into their workplace pension scheme has increased with effect from 6 April 2019. Anyone employing staff should check that these legal obligations are being complied with.
One-person limited companies are exempt from pensions auto-enrolment, which means that the company does not have to provide a workplace pension whilst the owner/director is the only employee.
Working out how best to utilise pension contributions tax relief can be complicated, and seeking professional advice is recommended.