Can DW claim tax-free interest?

kangoora

Just wondering, we're contributing all of my DW's gross salary (less about £1000) into her pension for this year and hopefully for a few more years.

Does this entitle her to claim tax-free interest on any interest from her bank accounts as her effective wage after pension contributions is now around £1,000 per year?

Presumably after next year we'll be OK in that the first £1,000 interest will be tax free and she'll probably be getting around £500 in interest per year

bowlhead99

You're aware that everyone has a personal allowance of at least £10,600 before they pay any income tax whatsoever?? e.g. if you earned £50k you would pay 0% on the first £10,600 of income, then 20% on the next £x and then 40% on the last £y. So, if her after-pension-contribution salary is £1000, and her interest income is only £500, then she is a long long long way from paying any income tax on anything.

And actually from this tax year onwards everyone gets a further £5k band right on top of the personal allowance at 0% for savings interest only, meaning if your total income is under £15,600, you won't pay any tax on savings interest. She can fill out an HMRC R85 form and send it to her bank (or fill out their own proprietary equivalent document) to register for tax free interest.

So the short answer is that your wife with ~£1500 of total taxable income will not pay any tax at all on her bank interest because it's a long long way under the personal allowance that we all get.

My question is: you are well aware that nobody pays income tax on their first £10,600 of income - you mentioned it in two separate posts as advice to someone else on the 'where to put proceeds from downsizing' thread last week. So, why would your wife be contributing all that money into a pension to end up far far far below that limit, when she only has a few hundred quid of interest income on the side?

I could understand it if she also had £9k of BTL income or something, so she'd take her salary down to £1k, then get £9k of BTL and a few hundred pounds of bank interest and not pay tax on any of it. There would really be a good tax advantage in doing that, getting rid of all that salary at 20%.

But once she's got her salary down to the personal allowance level, isn't she only saving 0% on many more thousands of pounds a year that she puts in a pension? And in doing so, locking away thousands of pounds which she then can't access until she's old enough, no matter what opportunities life throws up? And creating future taxable pension income of thousands of pounds which she would then have to perhaps plan carefully how to take out of the pension without incurring tax in the future?

Most people's approach would have been to only sacrifice salary down to £10,600 so that the salary all fits in the annual allowance, and be able to receive up to £5k of bank interest which fits in the special 0% band on top of that. Without even waiting for the 2016 extra 'savings interest tax waiver' to come in, she would be paying zero income tax. If she really didn't want the ~£11000 that she was left with this year, after paying the zero income tax, then she could invest it -first in ISAs, then unwrapped - in the type of assets she would have otherwise bought inside the pension scheme.

To choose to contribute pension all the way down to £1000 of net salary is quite a niche solution, so I'm just wondering what it's the solution for?

brewerdave

I thought you could only use salary sacrifice down to minimum wage levels ?? ie equivalent to £6.70 per hour ??

bowlhead99

brewerdave wrote: »

I thought you could only use salary sacrifice down to minimum wage levels ?? ie equivalent to £6.70 per hour ??

A "salary sacrifice" arrangement is one where you formally give up your salary, sacrificing it to give your employer a lower wage cost so that they will hopefully spend it on more attractive benefits for you (more pension contributions, insurances, company cars, other perks). You are right that you can't generally do that to leave you on a salary that's below minimum wage for the hours you work.

But the NMW levels don't stop you putting the (£6.70 or more per hour) salary that you legally earned, into a pension to protect it from tax, if you're not formally giving up your salary via "sacrifice". You can put as much as you like into a pension, up to your entire annual salary -subject to a £40k per year cap which can be carried forward for a while if you have a large enough salary to be able to use the unused allowance in a later year.

So it's completely legal to contribute enough into a pension to leave yourself only £1k of taxable earnings inthe current year.

The question is just why would you want to take the salary in the £1000-£10,600 range that you were paying 0% tax on, and put it into a pension which will be taxable when you draw it.

kangoora

Thanks Bowlhead, I agree its unusual but there is method behind the madness.

1. Equalisaton of pension pots initially due to huge disparity between sizes
2. Getting a student grant for eldest, and 2nd son following on next year.

Im a HRT and was salary sacrificing down to £50k for CB purposes (was around (9k p.a. into pension). DW earns around £20k. Last year I got a substantial sharesave, circa £100k which is coming out over 4 years to avoid CGT and this year an endowment matures for around £40k. All debts are now paid off and got a nice, newish, car. We've got enough to pay off the mortgage but are going to re-mortgage to a low rate.

So, got a bunch of money burning a hole but intending to retire in 3-4 years time at 56/57 - maybe even 55 but that looks a step too far.

1. I've got a reasonably healthy pension pot and with 3-4 years of max contributions i'm hoping it will hit £300-£350k in that time (assuming a conservative 3% growth). I'll be a BRT in retirement even with about £15k DB pension at age 60. DW has a tiny pot of £20k (poor previous planning) and no DB pension. DW intends to work for about 4 years after me (7 years younger). So, by maxing her pension contributions up to almost the limit of her salary we think we can get her pot to arround £200k-ish, using an SWR of 4% she won't be paying any tax for around 13 years until she gets her SP.

2. I'm salary saccing down to around £18k and using savings to supplement income. The side effect of this is that by us both reducing our gross income, instead of us subsidising our son for £2600 a year for Uni, the government will now give him a non-repayable grant of £3400 a year (household income below £25k). Agree I could probably do some fine tuning here but thats basically it.

One other, nice, side effect of getting rid of all debts is that we thought we would need to subsidise ourselves by about £1k per month. Surprisingly, by some lifestyle changes this appears to have halved and come November when we reduce the mortgage and no longer subsidise Uni we may be close to break-even. We seem to be managing reasonably well on the reduced amount although we are still subsiding to some degree. Still a WIP on this though and we are literally in the first few months of sorting all this and it will probably take 6 months for all the dust to settle properly on bills, pensions etc........

zagfles

bowlhead99 wrote: »

The question is just why would you want to take the salary in the £1000-£10,600 range that you were paying 0% tax on, and put it into a pension which will be taxable when you draw it.

Why are you assuming the OP's wife is doing it via an occupational scheme? It's almost certainly a RAS (relief at source) scheme, which virtually all personal pensions/SIPPs are, and in a RAS scheme you can get 20% tax relief even on the amount within the personal allowance.

To answer the OP's question, if it is a RAS scheme then contributions to the pension won't affect her tax status for interest purposes (unless she's a higher rate tax payer). She will have to have total income under £15,600 to get tax free interest. Contributions to a RAS scheme won't change this, they don't reduce taxable income (though they do extend the basic rate band and reduce "adjusted net income" - neither of which are relevant to tax status for interest).

If her contributions are to an occupation scheme operating net pay (ie contributions taken off pay before tax applied), then she wouldn't have to pay tax on her interest, but also she wouldn't get any tax relief on the amount within the personal allowance.

zagfles

kangoora wrote: »

Thanks Bowlhead, I agree its unusual but there is method behind the madness.

1. Equalisaton of pension pots initially due to huge disparity between sizes
2. Getting a student grant for eldest, and 2nd son following on next year.

Im a HRT and was salary sacrificing down to £50k for CB purposes (was around (9k p.a. into pension). DW earns around £20k. Last year I got a substantial sharesave, circa £100k which is coming out over 4 years to avoid CGT and this year an endowment matures for around £40k. All debts are now paid off and got a nice, newish, car. We've got enough to pay off the mortgage but are going to re-mortgage to a low rate.

So, got a bunch of money burning a hole but intending to retire in 3-4 years time at 56/57 - maybe even 55 but that looks a step too far.

1. I've got a reasonably healthy pension pot and with 3-4 years of max contributions i'm hoping it will hit £300-£350k in that time (assuming a conservative 3% growth). I'll be a BRT in retirement even with about £15k DB pension at age 60. DW has a tiny pot of £20k (poor previous planning) and no DB pension. DW intends to work for about 4 years after me (7 years younger). So, by maxing her pension contributions up to almost the limit of her salary we think we can get her pot to arround £200k-ish, using an SWR of 4% she won't be paying any tax for around 13 years until she gets her SP.

2. I'm salary saccing down to around £18k and using savings to supplement income. The side effect of this is that by us both reducing our gross income, instead of us subsidising our son for £2600 a year for Uni, the government will now give him a non-repayable grant of £3400 a year (household income below £25k). Agree I could probably do some fine tuning here but thats basically it.

Plus possibly bursaries as well.. Also if you have any pre-uni kids you could get tax credits as well!!

But for your main question - what sort of pension are you using for your wife? Using an occupational (net pay) scheme isn't really sensible as I wrote above you get no tax relief under the personal allowance, that's worth a lot more than tax free interest.

kangoora

DWs pension is via a PP, not an occupational scheme.

Her company is not due to do auto-enrollment until next year and they will implement at the latest possible date for the minimum possible amount. We'll just pay in the minimum to that to get matching contribs and review overall payments at the time.

kangoora

So, if I read this right, due to it being a PP it doesn't reduce her taxable income. Ah well, we're only missing out on about £100 of tax on interest which is dwarfed by the HMRC gross-up on her contributions. Thought it might be too good to be true

zagfles

kangoora wrote: »

DWs pension is via a PP, not an occupational scheme.

Her company is not due to do auto-enrollment until next year and they will implement at the latest possible date for the minimum possible amount. We'll just pay in the minimum to that to get matching contribs and review overall payments at the time.

It which case Bowlhead is incorrect, he seemed to be assuming it was an occupational scheme you were paying into.

Just make sure the gross PP contribution doesn't exceed 100% of her earnings (that's earned income, don't include interest). Eg if she earns £20k, don't put more than £16k net into the PP. Even if she contributes 100% gross she'll still end up with a little money left, probably around £700, because of the tax relief within the personal allowance minus the NI she pays.

When she is auto-enroled, you need to deduct her occ pension conts from the max gross amount she can pay into the PP. Eg earnings £20k, occ scheme conts £1k, don't pay more than £19k gross into the PP, ie £15200 net.

And she can't get tax free interest. Not till next year anyway when everyone will get it up to a £500/£1000 limit. Assuming this goes ahead (it hasn't been legislated for yet).

zagfles

kangoora wrote: »

So, if I read this right, due to it being a PP it doesn't reduce her taxable income.

Yup - when you declare RAS pension conts on a tax return, the tax calculation will increase the basic band (useless unless a higher rate tax payer), and reduce the "adjusted net income" (which I think is only relevant for stuff like the child ben calculation for those earning over £50k or the personal allowance loss for those who earn over £100k). It doesn't reduce taxable income.

Ah well, we're only missing out on about £100 of tax on interest which is dwarfed by the HMRC gross-up on her contributions. Thought it might be too good to be true

It's not - though could be one of things which changes in the July budget - keep an eye on it!