SIPP'S Higher Rate Tax Relief Calculation

NoviceInvestor_3

I am considering starting a SIPP but am a bit confused by the tax calculations shown for higher rate tax payers.

The examples I have seen seem to work like this:

If I make a contribution of £780, it gets grossed up at the basic rate of 22% to £1,000 - tax relief of £220. (So far so good)
It then goes on to say that a further 18% can be claimed via my tax return, and this is calculated as £1,000 x 18% = £180.
This means that a total of £400 (£220+£180) has been reclaimed.

I would have thought that a net payment of £780 would have grossed up to £1,300 (£1,300 x 60% = £780 total tax paid £520).
Therefore, the amount to be reclaimed on the tax return should be £520 - £220 = £300.
By my calculation I should receive an additional £120 tax relief.
Can anyone explain where I am going wrong.

Debt_Free_Chick

The contribution you actually pay is net of basic rate tax, only. So take whatever you pay and divide it by 0.78 - that gives you the equivalent gross contribution. It is that contribution that qualifies for tax relief.

If you pay basic rate tax, the tax relief is at 22% of the gross contribution. So £1,000 x 22% = £220 ..... you will have had this tax relief, so there is nothing owed.

If you pay higher rate tax, the tax relief is at 40% of the gross contribution. So £1,000 x 40% = £400. You have already received £220 so you are owed £180.

Note that the example you quote states that you will get an additional 18% tax relief - and 18% of £1,000 is £180. Using your calculation, if you were getting an extra £300 that would equate to further tax relief at 30% - add that to the 22% you already had and that' a total of 52% tax relief :eek:

The contribution paid is deemed to be net of basic rate tax so everyone gets that bit of tax relief regardless of their personal tax rate.

Incidentally, even those who do not pay tax get tax relief at 22% - but those with no job-based earnings can only pay a gross contribution of £3,600 p.a. (£2,808 net).

HTH

NoviceInvestor_3

Thanks - I now understand where I was going wrong.

I assumed that my net contribution of £780 would be grossed up to a pre-tax figure of £1,300 (£1,300 x 40% = £520, hence net payment of £780).

It seems a little unfair that the tax relief is only 30.8% (£400/£1,300) as I have had to pay tax of £520, but only get relief of £400.

pjala

What you are being taxed on is £1000. 40% of 1000 is £400, 22% of £1000 is £220. - edited

If you were being taxed on £1300, then what you say would be true - but you would then get no tax relief back on that, if they grossed up (if that's the right phrase) by 40%.

To pay in £1300, you would then need to pay in £1014. You would then get a further tax relief through your self assesment ( or paye) of £234 - this would make an overall contribution from yourself of £780 after tax.

Your second contribution is misunderstanding that the initial grossing up is through basic tax relief at 22%. You have to claim back the other 18%.

dunstonh

It seems a little unfair that the tax relief is only 30.8% (£400/£1,300) as I have had to pay tax of £520, but only get relief of £400.

tax relief is 40% (upto 72% indirectly and potentially if you have children/working tax credits). If you pay £1000 into a pension, you get 22% relief on the contribution making your contribution £780 and you claim the other £180 via your tax return.

So your net of basic rate tax contribution of £780 means £1000 has gone in with the other £180 being claimed back on your tax code. This makes your personal contribution £600 which is 40% of £1000.

Paul_Herring

pjala wrote:

What you are being taxed on is £1000. 40% of 1000 is £400, 22% of £1000 is £780.

- isn't 22% of £1000, £220? :rotfl:

pjala

Paul_Herring wrote:

- isn't 22% of £1000, £220? :rotfl:

Yes, edited first post.