Registered pension schemes
An individual can set up an investment of funds to provide an income during their retirement in a tax efficient way by making payments into a registered pension scheme.
A pension scheme is a savings plan for retirement that enjoys special tax privileges, but only if the scheme is registered with HMRC.
Investing in a registered pension scheme is a long-term investment and is very tax efficient for the following reasons:
- The individual obtains tax relief on the contributions made into the scheme.
- Where an employer contributes into the scheme, tax relief for the employer contributions is available with no taxable benefit (i.e. no P11d required) for the employee.
- Registered pension scheme funds can grow tax-free as the scheme is exempt from income tax and capital gains tax.
- On retirement, part of the funds can be withdrawn as a tax-free lump sum.
Types of registered pension schemes
The two main types of registered pension scheme available are:
- occupational pension schemes – applicable to employees only
- personal pension schemes – applicable to all individuals.
Occupational pension schemes
An occupational pension scheme is a scheme set up by an employer for the benefit of its employees.
An employer may use an insurance company to provide a pension scheme for its employees, or it may set up its own self-administered pension fund.
- be automatically enrolled depending on the size of the employer
- choose not to join the employer’s scheme and set up a personal pension plan, or
- contribute into both the employer’s occupational scheme and set up a personal pension scheme.
Contributions into occupational schemes may be made by the employer and the employee.
Personal pension schemes
Personal pension schemes can be established by any individual including those not working (including children).
Contributions into personal pension schemes may be made by:
- the individual, and
- any third party on behalf of the individual e.g. the employer, a spouse, parent or grandparents.
Overview of the tax relief rules for registered pension schemes
- The amount of tax relief available for pension contributions is the same regardless of whether the scheme is an occupational or personal pension scheme.
- The method of obtaining tax relief for the contributions is different depending on the scheme.
- Once the funds are invested in the scheme, all registered pension schemes are governed by the same rules.
Relief for contributions made by individuals
Tax relief is available for pension contributions if:
- the pension scheme is a registered scheme, and
- the individual is resident in the UK and aged under 75.
Regardless of the level of earnings, an individual may make pension contributions of any amount into:
- a pension scheme, or
- a number of different pension schemes.
- However, tax relief is only available for a maximum annual amount each tax year.
The total maximum annual gross contribution for which an individual can obtain tax relief is the higher of
- £3,600, and
- 100% of the individual’s ‘relevant earnings’, chargeable to income tax in the tax year.
Relevant earnings include trading profits, employment income, and furnished holiday accommodation income but not investment income.
The method of obtaining tax relief for pension contributions is different depending on the type of pension scheme.
Occupational pension scheme contributions
Where employees make pension contributions into an occupational pension scheme:
- payments are made gross, and
- tax relief is given through the PAYE system by reducing the earnings subject to tax (i.e. the payment is an allowable deduction from employment income).
Personal pension contributions
The method of obtaining tax relief for contributions into a personal pension scheme (PPCs) is the same whether they are made by an employee, a self-employed individual or an individual who is not working.
Relief is given as follows:
- For a basic rate taxpayer, basic rate tax relief is automatically given by deduction at source when contributions are paid, as payments are made to the pension fund net of 20% tax.
- For higher rate and additional rate taxpayers, 40% or 45% tax relief is given as follows:
– 20% at source.
– 20% or 25% through the income tax computation, obtained by extending the basic rate and higher rate bands by the gross payment (so that more income is taxed at 20% and less at 40% or 45%).
The above article only gives a basic overview of the two main types of pension. If you would like to set up a pension pot, Please speak to a pension advisor for more details.