Pension contributions and tax question

george4064

Hello,

This tax year I expect to earn c£65,000 before tax and contribute £6,500 in my pension via salary sacrifice.

I understand my tax will be broken down as follows:

£12,570 - personal allowance (no tax)
£37,700 - basic rate tax (20%)
£8,230 - higher rate (40%)

I want to make a further contribution (gross of tax) of £8,230 to my SIPP that bring my earnings down to £50,000 and hence avoid paying any 40% tax.

I understand that if I contribute £8,230 my SIPP platform will reclaim 20% and I need to contact HMRC to reclaim the other.

1. Are my calculations right or do I need to contribution £9,876 (1.2 * £8,230) to eliminate all 40% tax or another amount?

2. Once I've contacted HMRC to reclaim the 40% tax, how does HMRC give that tax back in practice?

3. If I make further contributions (using the carry over rule), will I get 20% or 40% tax relief? I think it'll be 20% but wanted to check I've understood this correctly.

hugheskevi

george4064 said:

I want to make a further contribution (gross of tax) of £8,230 to my SIPP that bring my earnings down to £50,000 and hence avoid paying any 40% tax.

Any reason you wouldn't use salary sacrifice to save on employee NICs?

george4064 said:

I understand that if I contribute £8,230 my SIPP platform will reclaim 20% and I need to contact HMRC to reclaim the other.

1. Are my calculations right or do I need to contribution £9,876 (1.2 * £8,230) to eliminate all 40% tax or another amount?

To make a gross contribution of £8,230 you would deposit £6,584 which the provider would gross up to £8,230 for basic rate tax.

george4064 said:

2. Once I've contacted HMRC to reclaim the 40% tax, how does HMRC give that tax back in practice?

As you would be making a gross contribution of under £10,000 the easiest way would just be to call HMRC and adjust your 2024/25 Tax Coding Notice to get the relief through PAYE.

george4064 said:

3. If I make further contributions (using the carry over rule), will I get 20% or 40% tax relief? I think it'll be 20% but wanted to check I've understood this correctly.

You would not be using carry-forward unless you contribute in excess of £60,000. 

You would be getting 20% relief, although if you used salary sacrifice you could get 28% relief once the 42% relief is used up.

Dazed_and_C0nfused

george4064 said:

Hello,

This tax year I expect to earn c£65,000 before tax and contribute £6,500 in my pension via salary sacrifice.

I understand my tax will be broken down as follows:

£12,570 - personal allowance (no tax)
£37,700 - basic rate tax (20%)
£8,230 - higher rate (40%)

I want to make a further contribution (gross of tax) of £8,230 to my SIPP that bring my earnings down to £50,000 and hence avoid paying any 40% tax.

I understand that if I contribute £8,230 my SIPP platform will reclaim 20% and I need to contact HMRC to reclaim the other.

1. Are my calculations right or do I need to contribution £9,876 (1.2 * £8,230) to eliminate all 40% tax or another amount?

2. Once I've contacted HMRC to reclaim the 40% tax, how does HMRC give that tax back in practice?

3. If I make further contributions (using the carry over rule), will I get 20% or 40% tax relief? I think it'll be 20% but wanted to check I've understood this correctly.

Firstly, you can't make a relief at source (RAS) contribution that reduces your taxable income.  These contributions increase your basic rate band so more income is taxed at 20% and less at 40%.

1.  If you want to increase your basic rate band by £8,230 then you would pay £6,584 and the pension company will add 25%, making a gross contribution of £8,230.  Note that 25% is the only amount they will add, your tax rate is of absolutely no relevance.

2.  You can't claim 40% from HMRC.  The pension company will add basic rate relief (see point 1) and you then tell HMRC about the gross RAS contributions and they will increase your basic rate band by £8,230.  This may well save you £1,646 off your income tax liability but it is not an "extra 20%", your tax is simply recalculated to reflect the gross RAS contribution.  If you were only actually due to have paid higher rate tax on say £6,000 the personal tax savings would be reduced to £1,200.

3.  Once you have moved back into being a basic rate payer you will just get the basic rate relief the pension company adds.  Why do you think you can use carry forward of unused annual allowance???

Also, is there any reason why you are considering this option when salary sacrifice is used by your employer 🤔

george4064

Thanks both, I can only increase my salary sacrifice contributions at work twice a year. So this is effectively a rebalancing payment to ensure I avoid paying any 40% tax.

In short, I'm trying to work out how much lump sum payment I need to make into my SIPP so that overall I don't have any earnings taxed at 40%.

Dazed_and_C0nfused

george4064 said:

Thanks both, I can only increase my salary sacrifice contributions at work twice a year. So this is effectively a rebalancing payment to ensure I avoid paying any 40% tax.

Shame if you've missed that chance.

You don't get any pension tax relief with salary sacrifice (they are actually employer contributions) but you avoid paying tax and NI on the amount sacrificed so overall a better outcome financially than relief at source contributions.

And you avoid paying the tax and NI on each payday, no having to involve HMRC and wait for them to update your tax code and/or review things once the tax year ended.

george4064

Dazed_and_C0nfused said:

george4064 said:

Thanks both, I can only increase my salary sacrifice contributions at work twice a year. So this is effectively a rebalancing payment to ensure I avoid paying any 40% tax.

Shame if you've missed that chance.

You don't get any pension tax relief with salary sacrifice (they are actually employer contributions) but you avoid paying tax and NI on the amount sacrificed so overall a better outcome financially than relief at source contributions.

And you avoid paying the tax and NI on each payday, no having to involve HMRC and wait for them to update your tax code and/or review things once the tax year ended.

It is a shame, however I’ve got many more years ahead of me to make bigger contributions. (Currently 33 years old).

Ideally I would’ve salary sacrificed exactly £14,729 over the tax year to avoid paying any 40% tax. However I haven’t been able to do that (as I can only update Sal sacrifice % twice a year at given points, so what’s my next best plan of action(s) to minimise the amount of earnings I ultimately pay 40% tax on?

Dazed_and_C0nfused

Well if you want to avoid higher rate tax the two usual options are relief at source pension contributions or Gift Aid donations.

But don't forget you need to look at all your taxable income, not just earnings i.e. taxable interest, company benefits, dividends etc.