Higher rate tax and pensions tax reclamation


P

Peter Riocreux

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
 
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M

Matti Lamprhey

Peter Riocreux said:
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?
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
 
T

Terry Harper

Peter Riocreux said:
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.
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.
 
M

Matti Lamprhey

Matti Lamprhey said:
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.
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.
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.
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
 
T

Tim

The Inland Revenue also benefit to the tune of GBP 4.54, ...
Eh?

... and these are funded by reduced Employee's NIC
of 89p and reduced Employer's NIC of GBP 11.35.
In other words, the Inland Revenue are *down* GBP (0.89 + 11.35) - 4.54 =
7.70 !
 
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M

Matti Lamprhey

Tim said:
Eh?


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