Pension contribution in one year and withdrawing it in the following year - tax implicatons

daxter321

If you're self employed, over retirement age and in the 40% tax bracket, and you make a one-off £10k contribution to an existing private pension scheme and then withdraw it the following year.

You would get 40% tax relief when you make the payment, so net cash outlay in year 1 is £6k.

If you remove the £10k in the following year, the first 25% is tax free, so the tax is 40% of £7.5k (£10k-£2.5k) = £3k, so net receipts of £7k.

£6k out, £7k in, £1k gain...I must be missing something obvious here!

NoMore

No your not missing anything, thats the advantage of pensions, its down to the 25% tax free.

There's a good post from reddit that shows all the gains based on different scenarios, yours is higher rate on both contribution and withdrawal in a SIPP which leads to a16.67% gain. 6k to 7k is 16.67% gain. 

PSA: Pension Tax Efficiency / Return on Investment - April 2024 : r/UKPersonalFinance

Albermarle

Pensions are tax friendly, so that is what you are seeing.

One thing to watch is once you withdraw any taxable income from a DC pension, then the MPAA is activated.
That means in future, you can not add more than £10K to a pension in any one tax year ( including any added tax relief) .

How old are you? Once you reach 75, you will not get tax relief on pension contributions anymore.

zagfles

Why do you think you're missing something, pensions have tax advantages, that's why people use them. But gaining £1k is trivial, much better leave it in the pension till you give up work if you're going to be a basic rate taxpayer then, as the gain would then be £2500 (as only £1500 tax instead of £3000), plus interest/growth. 

Actually a couple of things you might be missing is you'd trigger the MPAA (google MPAA triggers) which restrict further contributions, and on higher numbers you might be affected by recycling rules (google HMRC pension recycling rules).

daxter321

Albermarle said:

Pensions are tax friendly, so that is what you are seeing.

One thing to watch is once you withdraw any taxable income from a DC pension, then the MPAA is activated.
That means in future, you can not add more than £10K to a pension in any one tax year ( including any added tax relief) .

How old are you? Once you reach 75, you will not get tax relief on pension contributions anymore.

Thanks.  I'm 66 in April, when my state pension kick in, which takes me into the 40% bracket and that was the reason for my question.

daxter321

zagfles said:

Why do you think you're missing something, pensions have tax advantages, that's why people use them. But gaining £1k is trivial, much better leave it in the pension till you give up work if you're going to be a basic rate taxpayer then, as the gain would then be £2500 (as only £1500 tax instead of £3000), plus interest/growth. 

Actually a couple of things you might be missing is you'd trigger the MPAA (google MPAA triggers) which restrict further contributions, and on higher numbers you might be affected by recycling rules (google HMRC pension recycling rules).

zagfles said:

Why do you think you're missing something, pensions have tax advantages, that's why people use them. But gaining £1k is trivial, much better leave it in the pension till you give up work if you're going to be a basic rate taxpayer then, as the gain would then be £2500 (as only £1500 tax instead of £3000), plus interest/growth. 

Actually a couple of things you might be missing is you'd trigger the MPAA (google MPAA triggers) which restrict further contributions, and on higher numbers you might be affected by recycling rules (google HMRC pension recycling rules).

I'll be 66 in April, when my state pension kicks in and takes me into the 40% tax bracket, hence my question.

kempiejon

Ah, could have been doing it for the past 10 years then, though of course the MPAA trigger limit used to be £4K for a while