Should my wife have all her income paid into a SIPP?
My wife is nearly 64 and will retire in the next two years. Together with a business partner she manages two nursery schools.
This is a limited company (50% each) and for the last couple of years she has paid herself a minimal amount in salary, with the rest taken in the form of dividends totalling around of £30,000.
She has a SIPP with a very small amount in it and virtually no other pension rights.
She will not be short of money on which to live. Would it be sensible (tax efficient) for the school to pay all her income into the SIPP?
Tom Selby, AJ Bell Senior Analyst says:
While tax relief on personal pension contributions is restricted by your UK earnings, there is no such earnings limit for employer pension contributions.
Employer pension contributions can benefit from corporation tax relief as a deductible business expense, provided they are made ‘wholly and exclusively for the purposes of trade’. In HMRC’s eyes the contributions should be made at a reasonable level for the individual concerned and their role in the company.
Extracting profit from a business as an employer pension contribution rather than as a dividend will also save on any tax that would have otherwise been paid on the dividend itself.
Someone who is a company owner has the option of paying some or all of the firm’s profits directly into their pension.
By taking a small salary from the business means your wife is likely to be obtaining National Insurance credits each year, boosting her entitlement to certain benefits, such as the state pension.
Choosing not to declare a dividend could have an impact on her business partner, so it is important that they speak to their tax adviser or accountant.
Your wife needs to consider the annual allowance. This is the total amount that can be paid by you, or on your behalf, to pensions each year before a tax charge will apply on the excess. For most people the annual allowance in 2021/22 is £40,000. If you have very high earnings or have flexibly accessed taxable income from your retirement pot your annual allowance may be lower.
Once in the pension, the money benefits from tax-free investment growth on the contributions. When a saver comes to access their cash, usually a quarter (25%) will be available tax-free, with the rest taxed in the same way as income.
It may be possible for your wife to pay more than £40,000 into her pension via an employer contribution.
Pensions ‘carry forward’ allows savers to use annual allowances from the three previous tax years in the current tax year. This means that someone could make a contribution worth up to £160,000 without breaching the annual allowance.
To use carry forward the person needs to have been a member of a registered UK pension scheme during the years in question. You don’t need to have paid into a scheme. Where personal contributions are used the 100% of relevant earnings rule also applies, although this is not an issue when it comes to employer contributions.
Carry forward is not available where someone has accessed taxable income from their pension and triggered the money purchase annual allowance.
Very high earners who trigger the annual allowance taper can only carry forward the tapered amount (which will be somewhere between £40,000 and £4,000).
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