Higher rate tax and pensions tax reclamation

I think I am misunderstanding this somewhere along the way, but my IFA has been unable to explain this to me by email, so I thought I would try here. (Numbers are illustrative only.)

Higher rate tax payer wants to make a GBP 100 *gross* payment into his private pension scheme. Employer calculates what that contribution is

*net* of *basic* rate tax (GBP 78) and deducts it from salary *net* of *higher* rate tax.

The GBP 78 goes to the pension fund which automatically gets back the BRT, making the contribution back up to GBP 100. The tax payer then applies for the other 18% back.

*Where* does the 18% go? I have been told (at least) two different things. The first was that the 18% doesn't actually go into the pension, but your tax code is adjusted so that you end up only effectively paying BRT on the contribution. This makes all the numbers seem right.

The second explanation was that the money *does* go to the pension. This seems more sensible, but that makes the numbers wrong because then the GBP 100 after the refund of the BRT is equivalent to GBP 130 after the refund of the HRT (100x0.78 == 78 == 130x0.6), so effectively the *gross* contribution is GBP 130 instead of GBP 100.

My IFA either doesn't understand my point or doesn't grok mathematics, but thinks this perfectly sensible. The company accountants are quite happy with making the GBP 78 deduction too.

Can my employer not make a gross deduction to pay to the pension company which would neatly bypass this problem entirely!

Can anyone spot what I am misunderstanding?

Cheers,

Peter

Reply to
Peter Riocreux
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What's happening here is that you are making your own contribution to your pension out of your net salary, using your employer to make the payment for you. This uses GBP 130 of your gross salary, of which 40% (GBP 52) goes to the Inland Revenue and 60% (GBP 78) to your pension fund. The pension fund reclaims GBP 22 from the IR (based on the equivalent standard-rate-taxpayer's notional GBP 100 gross contribution) and you can reclaim the remaining GBP 30 from the IR in your tax return.

The tax code adjustment may or may not be made -- if it's a one-off payment then it probably won't be, whereas if the IR see you making a regular claim of this kind they'll apply it. If it's applied then the only effect is that the GBP 30 will be trickled back to you through PAYE during the tax year rather than manifesting itself as a refund following your tax return.

But here's a suggestion if you're doing this regularly: agree a "salary sacrifice" with your employer to cover this pension contribution. This would mean that your employer agrees to make a GBP 100 contribution to your pension fund on his own behalf, reducing your gross salary by only GBP 88.65. He saves the remaining GBP 11.35 in Employer's NIC (assuming

12.8%), so it's all the same to him.

Matti

Reply to
Matti Lamprhey

Either you or your employer pays the pension provider the contribution net of 22% tax, i.e. £78 and the pension provider claims back the £22. You then include the amount paid in your self-assessment form, and this then shifts the threshold for Higher Rate Tax upwards by the same amount. Consequently you only pay standard rate tax on the contribution.

Reply to
Terry Harper

Sorry -- that's incorrect. The amount reclaimed from the IR is GBP 18, not 30, and it's money which was overdeducted by your employer in PAYE.

To expand on this suggestion: for every GBP 100 of gross pension contribution switched in this way from Employee to Employer Contribution, you save GBP 7.70 in your net pay. The Inland Revenue also benefit to the tune of GBP 4.54, and these are funded by reduced Employee's NIC of 89p and reduced Employer's NIC of GBP 11.35.

Matti

Reply to
Matti Lamprhey

"Matti Lamprhey" wrote

Eh?

"Matti Lamprhey" wrote

In other words, the Inland Revenue are *down* GBP (0.89 + 11.35) - 4.54 7.70 !

Reply to
Tim

No -- what I'm doing is to differentiate between the Inland Revenue and the NI Contributions Office. This was for clarity, so you can see the effect on all parties. It's perfectly permissible to regard IR & NICO as the same thing, of course, in which case they are down GBP 7.70 (your own saving) as you say.

The main reason I mention this approach is that the majority of IFAs, pensions advisors and accountants will tell you that employee's contributions are better than employer's contributions "because you don't get any tax relief with employer's contributions". This is false: the net tax position is the same for both, but the NI position (which they don't mention) is reversed!

Matti

Reply to
Matti Lamprhey

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