Five top tax tips for savvy pension savers

It has never been more important to make the most of tax breaks, but knowing where to start can be tricky. To help you along, we've listed 5 tips for retirement savers:

1. Don’t miss out on free money

Pensions benefit from upfront tax relief, providing an immediate boost to the value of your fund. This is granted automatically at 20% of the amount going into your pension (which is the equivalent of a 25% boost to your contribution), while higher-rate taxpayers can claim back an extra 20% and additional rate taxpayers 25%.

So, if you pay £80 into a pension, that will be topped up to £100 regardless of how much income tax you pay. A higher-rate taxpayer could then claim back £20, while an additional-rate taxpayer could claim £25. In effect, getting £100 in a pension can cost as little as £55.

If you’re a member of a workplace pension scheme you’re also entitled to an employer match on at least your first 3% of qualifying contributions – so effectively a 100% bonus on the money you save for retirement. You can also access 25% of your fund tax-free from age 55.

While many people will understandably be struggling to think beyond the next weeks and months at the moment, the combination of tax relief, tax-free cash from 55 and a matched employer contribution makes pensions a difficult investment to beat. Those who can afford to should consider making the most of their available allowances.

2. Pension contributions can help you out of tax traps

You could be pushed into a tax trap – where your earnings rise and you aren’t eligible for certain tax breaks or benefits. There are a few to be aware of, but two common examples are:

The good news is that you can use pension contributions to help. The earnings figure that HMRC for these thresholds is called your ‘adjusted net income’. It’s confusing Government terminology but it means all your income, including earnings, pensions, savings interest and investment dividends, minus any pension contributions or Gift Aid donations.

What this means in practice is that if a pay rise tips you over one of the limits above, you could make pension contributions to bring you under it. That means more in your pensions and a potential tax trap avoided.

For example, if you earn £62,500 and put £2,500 in your pension (£2,000 from you plus £500 tax relief), you’ll be back under the high-income limit and be entitled to the full benefit. You’ll need to work out what that means for your finances – but if you can afford that pension contribution, it means you could boost your income.

3. Boost your pensions annual allowance to £200,000

The amount you can save in a pension each year has been eroded from a high of £255,000 in 2010/11 to £60,000 today. This is still triple the ISA allowance, and there is a tax trick you can use to boost it even further.

Pensions ‘carry forward’ rules allow you to use up to three years of unused allowances in the current tax year. So, if you didn’t pay anything into a pension in the 2021/22, 2022/23 or 2023/24 tax years, you could carry forward £140.000* of unused allowances and add them to this year’s allowance of £60,000.

This flexibility is particularly useful for business owners or anyone who is trying to make up for lost time saving for retirement.

* The annual allowance in 2021/22 and 2022/23 was £40,000.

4. Beware of the paying in rules if you've already started to take money from your pension

With an uncertain economic outlook, it is likely more over 55s will need to turn to their pension to plug a short-term income gap.

Those who made a taxable withdrawal (i.e. more than the 25% tax-free lump sum) have an annual allowance of £10,000. This annual allowance is called the Money Purchase Annual Allowance (MPAA). Furthermore, they lose the ability to carry forward any unused allowances from previous tax years.

The Treasury introduced this measure to stop people recycling large sums of money through pensions to benefit from extra tax-free cash.

People planning to access their pension flexibly need to think carefully about the impact it will have on their ability to save in the future.

Anyone wanting to access their pension but concerned about triggering the MPAA should consider whether just taking their tax-free cash could be sufficient, particularly where they are planning a one-off purchase rather than taking a regular income.

5. Get your affairs in order

Changes to the way your retirement fund is taxed on death mean pensions are now attractive tax planning vehicles. If you die before age 75 your fund can be passed on to your beneficiary tax-free, while if you die after 75 it is taxed in the same way as income when your beneficiary draws an income.

Furthermore, if your beneficiary dies before age 75 they too can pass on any untouched funds, even if you died after age 75.

This makes it even more important to make sure your pension goes where you want it to go should the worst happen. Changes in life circumstances such as the birth of a child, marriage or divorce could affect who you want to receive your pension if you die, so the tax year-end provides a useful opportunity to review and revise your death benefit nominations.

Find out more about our Pensions

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