Self Employed / Tax / Pension

Colincbayley

dunstonh wrote: »

dont forget to claim working/childrens tax credits if you do this. Pension contributions reduce your income down and can increase the tax credits or bring you into the area where you can claim them. So, not only do you get the normal tax relief, you could also potentially get tax credits as well. The theoretical maximum is 72% if you get the maximum tax credits (as well as 40% relief).

Thanks for that, will look into it.

However, it is this Class 4 N.I, payment on account and where the tax relief is giving ( i.e pension fund claims it or my accountant does on my S.A) that is giving me the headache.

I think I must have read the whole to the damm interweb in the last few days trying to find the answer!

Any more views?

Debt_Free_Chick

The pension contributions will not affect/reduce your class 4 NI liability, so that will remain at £3,052.80 i.e. 8% on profit between £5,715 & £43,875

Assuming the only income on your tax return is £50k (profit from self employment) and that you pay a contribution of £40k to your SIPP, that contribution will be grossed up to £50k. Your basic rate personal allowance will then be extended by £50k to £56,475.

So you will have income of £50,000 less a PA of £56,475 giving rise to no tax liability. Any payment on account already made this year will then be deducted and is likely to give rise to a tax refund, which you can elect to have repaid or leave it on account.

To be honest, I'm not sure what your POA will be for next year, but any overpayment from this year will count towards it. I would simply log on to SA online, look at the POA calculated and consider a claim to reduce it, which you can do online.

HTH

Pennywise

Plenty of conflicting answers on this thread - probably because some are a little of out date and don't realise relatively recent changes.

I'll give you my take on it (as an accountant who does a few hundred tax returns each year).

You pay your pension contributions NET of tax, so if you pay £40k to the pension co, they claim £10k tax relief from HM Treasury, so £50k goes into your pension "pot". So far so good.

You've already had basic rate relief, so the pension doesn't come off your taxable profits for basic rate band purposes, so on your SA return, you are still liable to tax on that £50k.

All that happens on your SA is that your higher rate band is extended by £50k so you don't have any HR tax on your SA return, but you still have basic rate tax and class 4 NICs.

So, to use your initial figure of £50k profit. Without any pension, you'd be liable to tax of £10,626 and NIC of £2,868, making a total of £13,494 due for that year which also triggers two payments on account of 50% for the following tax year.

Now, to complicate, we add in £40k premium to your pension, to which HM Treasury add £10k making an investment of £50k. Your SA tax is reduced to tax of £8,793 but NIC remains at £2,868, making a total of £11,661 due for the year which again triggers two payments on account of 50% for the following tax year.

So with the pension, all that happens on your SA return is that you save higher rate tax totalling £1,833, and have an increased "asset", i.e. the pension pot which is £10k higher due to tax relief, i.e. a pension worth £50K instead of money in the bank worth £40k. So you're still considerable better off by investing in the pension.

At the end of the day, you're not going to be able to eliminate your SA tax and payments on account to nil by paying into a pension - you'll always have BR tax and Class 4 NIC on your profits - the best scenario is to pay tax and payments on account, but get a similar amount of "wealth" back in terms of tax relief paid into your pension fund.

Pennywise

As a further thought to the above, you perhaps should consider transferring your business into a limited company, the rules for which are different.

Firstly, you'd have no class 4 NIC to pay on profits.

Secondly, employer's contributions to pensions are paid gross, so using the same figures, company could make £50k profit and pay £50k into a pension. Company profits reduce to nil, no corporation tax at all, pension fund value £50k (no tax relief paid by HM Treasury, as contributions paid gross).

So, you can easily achieve what you want to by operating as a limited company instead of a sole trader. Of course, there are other factors, such as paying yourself a small wage and dividends if you need funds to live on, and of course all the usual pros and cons of operating as a limited company - there are loads of threads on here and other fora about that.

Colincbayley

Thanks Pennywise, I understand how it works now. Great info.:beer:

Rolo_Tomasi

Just to confirm that Pennywise is correct (although I haven't checked the calculations)

zygurat789

Colincbayley wrote: »

Thanks Pennywise, I understand how it works now. Great info.:beer:

That's the value of having an accountant.

Colincbayley

zygurat789 wrote: »

That's the value of having an accountant.

Tell me about it, I have been paying mine truck loads for years and have just this week changed to a new firm.


One more question if I may, please.

Would chucking all this money into a pension be the best course of action, or have I missed something? ( I know this is one of those how long is a piece of string questions )

bannertime

Pennywise

I cant seem to get the same tax and ni figures as you. Could you give abreakdown at how you arrived at them.

Thanks

Colincbayley

Pennywise wrote: »

As a further thought to the above, you perhaps should consider transferring your business into a limited company, the rules for which are different.

Firstly, you'd have no class 4 NIC to pay on profits.

Secondly, employer's contributions to pensions are paid gross, so using the same figures, company could make £50k profit and pay £50k into a pension. Company profits reduce to nil, no corporation tax at all, pension fund value £50k (no tax relief paid by HM Treasury, as contributions paid gross).

So, you can easily achieve what you want to by operating as a limited company instead of a sole trader. Of course, there are other factors, such as paying yourself a small wage and dividends if you need funds to live on, and of course all the usual pros and cons of operating as a limited company - there are loads of threads on here and other fora about that.

Great idea, but after a quick look there is a problem with this.
My business is property rentals ( of my own properties ) hence it will be very expensive to transfer the property stock into a Ltd Co.

As an option, is there anything to stop me setting up my own management company as a Ltd Co? And then charge myself for the property management, then do as you suggest for the pension.
I don't know if HMRC would allow this as I would have to charge myself in the region of a 50% of rent management fee when the market rate is 10 -12%

If this is possible, then I think it will solve my nice little problem.

Thanks in advance for any help.