Pensions can be effective vehicles for growing your wealth, especially if you’re earning in excess of £50,270. For example, did you know that by using your pension wisely, you can receive the equivalent of a 72% return, without taking any risk?
This is because, with some expert financial planning, you can use your pension to receive an impressive uplift in tax relief.
Read on to find out how.
What is the amount of tax you have to pay?
First of all, you’ll need to understand the amount of tax you will pay on your income. This includes income tax and national insurance.
The income tax rate you pay is based on your taxable income. For the tax year 2021 to 2022:
- Up to £12,570 is the standard personal allowance and is taxed at 0% rate
- £12,571 to £50,270 is taxed at the basic rate of 20%
- £50,271 to £150,000 is taxed at a higher rate of 40%
- Over £150,000 is taxed at an additional rate of 45%
If you pay class 1 national insurance contributions, the rate for the 2021 to 2022 tax year is also dependant on your income:
- £184 to £967 a week — 12% national insurance rate
- Over £967 a week — 2% national insurance rate
As an example, a basic rate tax payer that receives £1,000 from their employer, will be taxed at a rate of 12% for national insurance and a rate of 20% for income tax. This results in £680 in their bank account, after tax has been deducted.
Let’s now consider an individual who is a higher rate tax payer, and earning over £50,270. Any additional income over this threshold incurs an additional 2% in national insurance and an increased rate of 40% for income tax. Therefore, an extra £1,000 results in £580 in their bank account, after tax.
Using your pension to make a return on your investment
The amount you pay in tax can be quite shocking. However, this can be resolved by using your pension and contributing the same amount through a scheme known as salary sacrifice.
Most employers pay into your pension through this method, and in doing so, the contributions are gross of all tax. This means you do not have to pay income tax or national insurance on this amount.
Using the same examples as above, the basic rate tax payer will see their £680 receive an uplift of £320, which equates to a return of 47%. For the higher rate taxpayer, their £580 will receive an uplift of £420 in tax relief. This is equivalent to a 72% return, and is completely risk-free.
Your pension can be an effective tool to help you pay less tax
As a high-earner your financial situation can be complex. However, making the most of your pension can be an effective tactic to help maximise your tax savings.
If you are considering using your pension in this way, then it’s always best to seek the advice of a private wealth manager or financial planner, who can help you to successfully achieve your financial goals.