Tax planning via pension contributions

2010-11 saw the introduction of the new 50% rate where taxable income exceeds £150,000. In addition, there is an effective tax rate of 60% for taxable income between £100,000 and £112,950, as the personal allowance of £6,475 is reduced by £1 for every £2 of income above £100,000. 

From April 2011, the personal allowance has been increased by £1,000 to £7,475, but the higher rate band has been reduced from £37,400 to £35,000 from that date. There are further changes proposed for 2012-13 with the allowance increasing to £8,105 and the higher rate band falling to £34,370. The 1% increase in national insurance rates also take effect from April 2011.

This reduction in the higher rate band will be important for child benefit claimants. From April 2013, child benefit is to be axed where one parent is a higher rate taxpayer. So £1 of income over £42,475 will not only cost an extra 20p in tax, but will cost the family £1,055 per annum for the eldest child and £697 for each subsequent child. 

So how can payment of pension contributions help to mitigate these various tax increases? For high earners, George Osborne stated in the Budget Speech on 23 March 2011 that the 50% rate was only intended to be temporary, which suggests that such people should be looking to maximise their tax relief from pension contributions over the next few tax years. 

From 2011-12, there is an annual maximum of £50,000 that can be paid with full tax relief at 50%. So, if contributions of that magnitude were not paid in the three tax years from 2008/09 to 2010/11, any unused surplus from these three previous years can be brought forward and relief obtained in the current year. So potentially, someone who has not paid any pension contributions in that period, could obtain tax relief on contributions of £200,000 during 2011-12. 

For taxpayers with taxable income just above the £100,000 level, payment of pension contributions will mean that they receive tax relief at the effective rate of 60%.

For taxpayers with children, whose earnings take them into the 40% band, they may want to consider the deferral of pension contributions until after April 2013, as not only will they benefit from 40% tax relief, but it could also help to protect their entitlement to child benefit.

To discuss this article in more detail, please contact Ian Smethurst on 01204 551100