Higher rate tax relief

Mzungo

Am I missing something or are we getting ripped off with higher rate tax relief.


If I invest 10k into a personal pension then the pension provider tops up for basic rate tax (@20%).


10,000 / (1 -20%) = 12,500


As a top band tax payer I think I should get relief at the 45% rate.


10,000 / (1 -45%) = 18,182


Therefore through my tax return I would have thought I get the difference of 5,682 (18182 - 12500) back.


It has cost me 18,182 of pre-tax salary to make my 10,000 payment.


However, the tax relief I actually get through self assessment is 12,500 * (45% - 20%) = 3,125.


Am I missing something or am I missing out on 2,557?


Thanks!

martinsurrey

Mzungo wrote: »

Am I missing something or are we getting ripped off with higher rate tax relief.


If I invest 10k into a personal pension then the pension provider tops up for basic rate tax (@20%).


10,000 / (1 -20%) = 12,500


As a top band tax payer I think I should get relief at the 45% rate.


10,000 / (1 -45%) = 18,182


Therefore through my tax return I would have thought I get the difference of 5,682 (18182 - 12500) back.


It has cost me 18,182 of pre-tax salary to make my 10,000 payment.


However, the tax relief I actually get through self assessment is 12,500 * (45% - 20%) = 3,125.


Am I missing something or am I missing out on 2,557?


Thanks!

You are missing something.

"It has cost me 18,182 of pre-tax salary to make my 10,000 payment. "

you have actually made a £12,500 payment to your pension, its just you didn't see the £2,500 cash the scheme claimed back from the Gov.

you are forgetting that your tax relief is NET of tax.

you are comparing the £18,182 GROSS amount, to the £12,500 GROSS pension + the £3,125 POST TAX reclaim (as in you got £3125 in your pocket or offset other tax)

so really you should make the reclaim GROSS as well, to get £3125 post tax you need £5,682 pre tax at 45% marginal

12,500+5,682=£18,182

Sorted

dunstonh

Am I missing something or are we getting ripped off with higher rate tax relief.

You are certainly missing something.

If I invest 10k into a personal pension then the pension provider tops up for basic rate tax (@20%).


10,000 / (1 -20%) = 12,500


As a top band tax payer I think I should get relief at the 45% rate.


10,000 / (1 -45%) = 18,182


Therefore through my tax return I would have thought I get the difference of 5,682 (18182 - 12500) back.


It has cost me 18,182 of pre-tax salary to make my 10,000 payment.


However, the tax relief I actually get through self assessment is 12,500 * (45% - 20%) = 3,125.


Am I missing something or am I missing out on 2,557?

If you put £10k into a pension then you are talking £10k gross. Always talk gross when dealing with pensions. You you say you put £10k in, you didn't. You actually put in £12.5k. You get tax relief on the gross contribution. You are not getting relief on the net contribution.

£10k into a pension costs £8k and a higher rate taxpayer can get a further £2k reclaim/offset bringing it to £6k effective. £4000 on £10000 is 40%

bowlhead99

Mzungo wrote: »

Am I missing something or are we getting ripped off with higher rate tax relief.

The easy way to look at it is, as a result of you paying £10000 into a pension and getting HMRC to send you £3125 back to your bank account after your tax return - a net cost of £6875...

... You now have pension investments worth £12500.

Clearly, being able to acquire £12500 of pension assets for only £6875, means you've only paid just over half the price of the assets, receiving massive tax relief to make up the difference. Your net cost of £6875 is only 55% of the value of the £12500 pension investments that you now own, which means you MUST have correctly received a full 45% of tax relief.

Basically:

- you have told the government that instead of having a big salary of (say) £170k taxable, you dumped £12500 into your pension, so you shouldn't pay tax on that £12500.

- As you'll have paid 55% tax on the £12500 through the PAYE system, and only had £6875 in your bank account with which to make contributions, they have ensured that when you instead choose to dump the £12500 into a pension, it only costs you £6875 to do so.

The way they do it is by making you put in £10k and then getting some cash back in your hand for a net £6875 cost, and having the provider do a standard basic rate claim to magically turn the £10k into £12.5k.

If you wanted to instead get a whole £18,182 into the pension, you'd have to increase your numbers, as you can see that this method only puts £12.5k into the pension.

But the logic would be the same. You'd put £14545 into the pension, the provider would gross it up to £18182, and the tax man would send you £4545 directly, so that the £18182 inside your pension only cost you a net £10000 to get it there. Which is fair because when you earned the £18182 you only got £10000 in your hand in the first place.

MichelleUK

It is very confusing to calculate the tax relief because the pension holder thinks of it in regard to how much physical cash they paid in whereas HMRC view it from how much actually ended up in the pension. Using your examples of a physical payment of £10,000 being grossed up to £12,500 inside the pension, the amount of rebate due in excess of the 20% given by the pension provider is:

20% Tax Payer

£12,500 x 0.80 = £10,000, same as actual paid, no more relief due.

40% Tax Payer

£12,500 x 0.60 = £7,500, £10,000 was paid, so a rebate of £2,500 is due.

45% Tax Payer

£12,500 x 0.55 = £6,875, £10,000 was paid, so a rebate of £3,125 is due.

Hargreaves Lansdown have a good calculater that will show you the tax relief level that you can expect on your contributions:

http://www.hl.co.uk/pensions/interactive-calculators/tax-relief-calculator

Bootsox

The other part of the equation is the facility to "carry forward" previously unused allowances for tax relief purposes.

Found this useful calculator, which also negotiates its way around the messy 2015/16 transitional annual allowance rules:

https://www.adviserzone.com/adviser/public/adviserzone/myclients/researchandplanning/pensionallowancecalculator