Is the taxman a thief? - understanding tax allowances on pension contributions

gillsfan_2

Hi all.

I am a 40% tax payer.

I have received a bonus (let's say £10,000). Ignoring National Insurance, I will have paid £4000 tax, giving me a net payment of £6000.

I want to invest this in a pension savings plan and, quite reasonably I assumed, I thought I would get my £4000 back if I did so, accepting that it would be in two chunks - 22% immediately and 18% on claiming it from the tax man. Therefore, the 'return' on this would be 4000/6000 (40%/60%) = 66.7% ie: I get my £4000 tax back.

Not so, says a BBC web page I came accross. The calculation used included the concept of 'extended tax bands' (lost on me I'm afraid) and the webpage uses the term 'The higher rate relief is calculated on the gross contribution.(http://news.bbc.co.uk/1/hi/business/7209266.stm). Although the calculations seem a bit complex, it seems to boil down to the fact that the taxman uses the calculation 40%/78% which would mean I only get £3077 of my £4000 back which is a return of 'only' 51.2% ((0.4/0.78) x 6000). So I have lost £923.

Worse, the new basic tax rate of 20% apperas to reduce the relief available. The calculation is now 40%/80% and the return is now 'only' 50% ((0.4/0.8) x 6000) = £3000 so I have lost a further £77.

So, whereas I thought I would get tax relief of 40% for my contribution equaling £4000, the taxman seems to be stealing £1000 of this so that my tax relief is really only 30%.

Advice please - have I got this right? Does anyone know of a good website that explains this in more detail.

Regards,

gillsfan

fengirl_2

Tax relief is relief from tax at your highest rate, not a 100% exemption from tax.
To give a very simple example:

Your income is £10,000
tax allowance 5,000
Tax due 5,000 @ 20% tax due £1,000

In other words, your tax allowance is £5000 @20% = £1000, NOT £5000.

This is the way that tax is calculated according to law.

jem16

gillsfan wrote: »

Hi all.

I am a 40% tax payer.

I have received a bonus (let's say £10,000). Ignoring National Insurance, I will have paid £4000 tax, giving me a net payment of £6000.

I want to invest this in a pension savings plan and, quite reasonably I assumed, I thought I would get my £4000 back if I did so, accepting that it would be in two chunks - 22% immediately and 18% on claiming it from the tax man. Therefore, the 'return' on this would be 4000/6000 (40%/60%) = 66.7% ie: I get my £4000 tax back.

You have to pay in £10,000 gross.

If you are paying into a company pension from gross pay, you pay in the whole £10,000 and you get 40% tax relief at source so you have only paid £6000. The whole £10,000 is in the pension fund.

If you pay into a personal pension you need to pay in £8000 (assuming after April 6th). This is then grossed up to £10,000 by the pension company. On your tax return you enter £8,000 as the gross amount and you will then get £2000 extra tax relief. This takes you back to the £6000.

From here you have 2 choices.

1. Keep the refund of £2000 so it has only cost you £6000. However there is obviously a slight gap between paying and getting full relief. Best thing to do is pay into the pension as close to April 5th as possible and then fill in your tax return as soon after 6th April.

2. Pay the refund of £2000 into the pension. This will be grossed up to £2500 and you can then claim another 20% from your tax return - so £500. You win instead of the taxman.

mrkbrrws

You aren't paying the right amount into the pension. It should be:-

Pension contribution £7,800
Tax relief (22/78) £2,200
Invested in pension fund £10,000

Your basic rate band is then extended by £10,000, giving you the additional tax relief at 18% = £1,800. You have paid a net £6,000 (i.e. your net bonus) to get a pension contribution of £10,000 (i.e. your gross bonus).

Nutty_Tart

I don't understand how pensions work so I can't give an opinion/advice there, but your initial question "Is the taxman a thief?" - This is one of those retorical questions right??????? :rotfl: