A higher-rate taxpayer can reclaim an additional 20% tax on their pension contributions, resulting in total tax relief of 40%. Getting tax relief on everything you put into a pension is one of the greatest benefits of saving for one. However, many higher-rate taxpayers are unaware that this relief does not happen automatically – you must claim it. We explain how higher-rate taxpayers can claim this relief.
How does higher rate tax relief work?
The principle of tax relief on pension contributions is the idea that all income paid into a pension scheme should be tax-free. Due to the fact that income tax is usually collected at source (via PAYE if you’re an employee), the money you contribute to your pension is refunded to you.
Contributions are automatically reduced by 20% by the basic rate and paid directly to your pension fund. You might find it more complicated if you are a higher-rate taxpayer. As you’ll be paying 40% tax on all your income over the higher-rate threshold, you can claim an extra 20% on this part of your income if it’s paid into your pension. Nevertheless, you must claim this money via your own self-assessment tax return.
An example is:
In your case, you earn £80,000 every year, so the higher rate of 40% is applied to £30,000 of that. A pension fund of $35,000 was contributed to that year. The whole contribution is automatically exempt from tax at a basic rate of 20%.
In your return or by writing to the tax office, you can claim an extra 20% tax relief on £30,000 (the amount you paid a higher rate of tax on). The remaining £5,000 you contribute to your pension is not subject to extra tax relief on pension contributions.
What are the benefits of higher rate of tax relief for my pension?
Saving for retirement at this level is twice as rewarding as saving on a basic-rate income because of the additional tax relief available to higher-rate taxpayers. It is imperative that you claim all available tax relief in order to maximize the value of your pension contributions.
Contributing to a pension with higher-rate tax relief is like boosting your contribution by around 66%. How can 66% be better than 40%? Because percentages have a way of working out. For example, if you pay 40% tax on £100, you’ll get £60. By paying that £60 into a pension, however, the income tax is repaid, making it up to £100 again. Increasing £60 to £100 represents a 66% increase. High-rate pension contributions offer good value for money, so they are very hard to beat.
It is important to ask your employer about how they make pension contributions on your behalf, as some systems (such as salary sacrifice) allow you to receive tax relief in a different way. In case you have several options about how you want to contribute to your pension, a financial adviser can also help.
What are the steps for claiming higher rate tax relief?
As opposed to basic rate tax relief on pension contributions, you will need to actively claim higher rate tax relief on your pension contributions. In either case, it is advisable to contact HMRC directly or to use your self-assessment.
Your self-assessment must be completed online in order to claim. The exact amount of your pension contributions should be entered into the relevant section on the online form. Include your contributions and the basic rate of tax relief of 20% in the gross calculation. One of the most common mistakes people make is not including this information. The relief will either come as a refund at the end of the year, as a reduction in your tax liability, or as a change in your tax code.
HMRC tax offices can also be contacted. A letter detailing how much you have paid should be included with your P60 or payslip. Additionally, you will have to provide personal information in order to receive tax relief on pension contributions. Each time your pension contributions or your salary change, you will need to submit a new letter.
Is it possible to claim tax relief for previous years?
Backdated claims for higher rate tax relief on pension contributions are possible, but there is a time limit. Generally, any tax relief claims can be backdated up to four years. You should easily be able to claim back some of the missing tax relief if you have only been a higher rate taxpayer for a short time.
Is there a limit to the pension tax relief?
You are limited to how much tax relief you can receive. The maximum amount you can put into your pension each year is currently £40,000 or 100% of your qualifying earnings. If you have this much money in your pension, you will receive tax relief only on the amount you have put in. There is also a lifetime allowance that allows you to draw up to £1,073,100 from your pension without incurring extra charges. It is important not to exceed this allowance without intending to, so keep a close eye on your pension contributions. Make sure you are on top of your contributions with our pension calculator.
Is it possible for other people to pay into my pension, and do I get tax relief?
Pension pots may be contributed to by more than just you and your employer. You can also have other people make pension contributions on your behalf, and you will receive tax relief on these contributions. As a result, you would still receive basic tax relief automatically, and you would still need to claim a higher rate of tax relief on pension contributions based on your circumstances. Contributions from third parties are not eligible for tax relief – they are treated as if they were made by you.
Is it possible to claim additional rate tax relief?
Over £150,000 in taxable income, you’ll pay 45% tax on everything over this threshold. You can claim an additional 5% tax relief on pension contributions on that amount, giving you a total of 45% tax relief on all contributions made from your income over that threshold. Once again, you’ll have to claim it back in your self-assessment.
Find out how you can maximize the value of your pension through tax relief by talking to your financial adviser or accountant.