How to ensure annual allowance is fully utilised

Whatsit_Allabout

Hi all,
Asking for guidance on behalf of my son. For context, he's one month into his first job. Salary ~£35k plus possible performance bonus. DC scheme, employee pays 1%, employer 8%. Employee can increase up to 25% of salary but with no further employer contribution except for half of national insurance savings due to the sal sac. He currently has very low living costs and wants to channel as much as possible into pensions (including opening a SIPP if necessary) and ISA/LISA in the most efficient way. What we're grappling with is:

1. Is it better to prioritise pension contributions, or ISA/LISA, given the £1000 gov't contribution, or is there a cross over? and

2. More generally, how can he (or how does anyone) ensure they exactly hit the maximum tax-free annual contribution allowance (e.g. headline £35k) by the end of the tax year given that he won't know until after the end of the tax year what his actual gross salary has been, given possible bonus payment, cost of living increase, reduced salary due to salary sacrifice etc? Am I right in thinking he can't benefit from allowance carry-forward as he's under the £60k max limit?

Sorry for the long questions but I'm keen to encourage this sort of behaviour and to make sure we get it right!

Dazed_and_C0nfused

Whatsit_Allabout said:

Hi all,
Asking for guidance on behalf of my son. For context, he's one month into his first job. Salary ~£35k plus possible performance bonus. DC scheme, employee pays 1%, employer 8%. Employee can increase up to 25% of salary but with no further employer contribution except for half of national insurance savings due to the sal sac. He currently has very low living costs and wants to channel as much as possible into pensions (including opening a SIPP if necessary) and ISA/LISA in the most efficient way. What we're grappling with is:

1. Is it better to prioritise pension contributions, or ISA/LISA, given the £1000 gov't contribution, or is there a cross over? and

2. More generally, how can he (or how does anyone) ensure they exactly hit the maximum tax-free annual contribution allowance (e.g. headline £35k) by the end of the tax year given that he won't know until after the end of the tax year what his actual gross salary has been, given possible bonus payment, cost of living increase, reduced salary due to salary sacrifice etc? Am I right in thinking he can't benefit from allowance carry-forward as he's under the £60k max limit?

Sorry for the long questions but I'm keen to encourage this sort of behaviour and to make sure we get it right!

How will he end up not knowing his final payslip details for the current tax year before the next tax year has started?

Does he get paid on the 5th of each month and only get his payslip retrospectively?

Sam_666

1. pensions is always winner, but you need to have clear goals

2. spreasheet, use monthly payslip data.

You are wrong about carry-forward allowance. Plenty info about it on web, do some research.

Marcon

Sam_666 said:

1. pensions is always winner, but you need to have clear goals

2. spreasheet, use monthly payslip data.

You are wrong about carry-forward allowance. Plenty info about it on web, do some research.

Pensions is not 'always [a] winner' - a LISA could be a much better alternative in some cases.

OP is not 'wrong' about carry forward. There are two reasons why it won't help their son right now:

• you can only use carry forward once you've used up the full £60K for the current tax year, whether by personal contributions (the gross amount, including tax relief), or personal + employer contributions. With a salary of only £35K, there quite simply isn't going to be scope to hit the £60K mark this year, let alone pay more 
• this is his first job and it doesn't sound as if he has had a pension in previous years. You can only use carry forward in respect of tax years for which you already had some sort of pension open in your name - doesn't have to be the one to which you want to contribute using carry forward.

hugheskevi

He currently has very low living costs and wants to channel as much as possible into pensions (including opening a SIPP if necessary) 

That would end up with almost no net income. Is that actually his goal? This goal would usually be associated with individuals close to the end of their career, not at the start.

What about wider financial goals, especially funding future property purchase?

Employee can increase up to 25% of salary but with no further employer contribution except for half of national insurance savings due to the sal sac. 

So on the maximum 25% salary sacrifice he would be getting 20% income tax relief, 8% employee national insurance relief and 7.5% from employer national insurance rate, so a total relief rate of about 35%. That is quite attractive.

However, if he thinks he will be a higher-rate taxpayer in the future (which seems highly likely given a £35K salary in his first job, excluding bonus), he may well have better options available in the future once higher-rate tax relief is on offer. 

Beyond the max salary sacrifice, all he is getting is 20% basic rate relief. That is not attractive to save into a pension.

1. Is it better to prioritise pension contributions, or ISA/LISA, given the £1000 gov't contribution, or is there a cross over? and

Pension with salary sacrifice will be better than LISA, assuming basic rate taxpayer in retirement. But guessing what tax rates and income thresholds might be decades in the future is speculative.

Pension contributions with just basic rate relief will be inferior to a LISA.

You should also consider stocks and shares ISA investment, intending to draw on these at a future date to enable higher pension contributions from salary when he is a higher rate taxpayer. That means he retains access in the meantime should he need it, and should get more relief in the future ultimately leading to a larger pension pot.

2. More generally, how can he (or how does anyone) ensure they exactly hit the maximum tax-free annual contribution allowance (e.g. headline £35k) by the end of the tax year given that he won't know until after the end of the tax year what his actual gross salary has been, given possible bonus payment, cost of living increase, reduced salary due to salary sacrifice etc? Am I right in thinking he can't benefit from allowance carry-forward as he's under the £60k max limit?

Have a pension you can contribute directly to. Once income that qualifies for tax relief for the year is known - typically on receipt of March payslip - make pension contribution to use up all qualifying earnings, typically in late March, early April. There is no reason why you would not know things like gross salary, salary increases, etc, until after the end of the tax year. Note bonus payment is taxable when paid, even if it relates to performance in a prior tax year. All the required information can be anticipated, and will be confirmed with March payslip.

Annual Allowance and carry forward is irrelevant in his position, it is earnings that qualify for tax relief that are relevant, some Googling or reading threads on here will quickly explain why.

For long-term savings, he needs to choose the balance between:

• Pension contributions eligible for salary sacrifice
• LISA
• Stock and shares ISA
• Pension contributions not eligible for salary sacrifice

The first 3 of that list appear to have merit for his position, but it is not obvious which would be best or the balance between them without knowing wider position and goals. The 4th on the list is very unlikely to be attractive.

It may be helpful to work through this financial flowchart to ensure the full financial position is taken into account.

singhini

Starting point £35,000
Salary sacrifice 25% = £26,250 income for tax purposes
------------------------------
£2,735 Income tax paid
£1,795 NI tax paid
-----------------------------
£21,720 take home 
----------------------------
£4,000 into LISA 
£17,720 into a SIPP
----------------------------
£1,000 tax relief claimed back by LISA
£4,430 tax relief claimed by SIPP provider
-----------------------------
Total tax paid = Nothing (infact your £900 better off)

NB: both the LISA and the SIPP attract 25% uplift
NB: both can be held in cash or invested
NB: accessing the funds differ 
NB: Your son has no money as its all invested (so don't expect birthday or Xmas presents)

hugheskevi

singhini said:

Starting point £35,000
Salary sacrifice 25% = £26,250 income for tax purposes
------------------------------
£2,735 Income tax paid
£1,795 NI tax paid
-----------------------------
£21,720 take home 
----------------------------
£4,000 into LISA 
£17,720 into a SIPP
----------------------------
£1,000 tax relief claimed back by LISA
£4,430 tax relief claimed by SIPP provider
-----------------------------
Total tax paid = Nothing (infact your £900 better off)

NB: both the LISA and the SIPP attract 25% uplift
NB: both can be held in cash or invested
NB: accessing the funds differ 
NB: Your son has no money as its all invested (so don't expect birthday or Xmas presents)

I think your NI figure of £1,795 is based on £35,000 salary, not £26,250?

BikingBud

singhini said:

Starting point £35,000
Salary sacrifice 25% = £26,250 income for tax purposes
------------------------------
£2,735 Income tax paid
£1,795 NI tax paid
-----------------------------
£21,720 take home 
----------------------------
£4,000 into LISA 
£17,720 into a SIPP
----------------------------
£1,000 tax relief claimed back by LISA
£4,430 tax relief claimed by SIPP provider
-----------------------------
Total tax paid = Nothing (infact your £900 better off)

NB: both the LISA and the SIPP attract 25% uplift
NB: both can be held in cash or invested
NB: accessing the funds differ 
NB: Your son has no money as its all invested (so don't expect birthday or Xmas presents)

Living at home, getting bed and board covered, and with next to no outgoings it might seem like the most cost effective solution.

I'd be quite happy supporting this.

singhini

Stupid GOV website calculated it  Estimate your Income Tax for the current year - GOV.UK
Well spotted 👍 should be £1,095 and so take home is £22,420
OP's son has even more money to invest and even more relief to claim 
Happy days  👍👍

DRS1

Whenever I read about someone planning to contribute 100% of their earnings to a pension I wonder what they are going to live on.  Fresh air?  OK as mentioned above most are nearer retirement and have other savings to fill the void but the OP's son?

Maybe it would be better to get him used to managing on his own - eg charge him rent energy costs food and other bills.  Get him used to handling his own finances so he is prepared for when he moves out.

Albermarle

Sam_666 said:

1. pensions is always winner, but you need to have clear goals

2. spreasheet, use monthly payslip data.

You are wrong about carry-forward allowance. Plenty info about it on web, do some research.

Suggest you do some research. Someone earning £35K and with the employer adding 8% and some NI, is never going to reach the £60K annual allowance, so no carry forward is needed/possible.