Updated 22 March 2022
If you are a higher-rate taxpayer, you could reclaim an additional 20% tax on your pension contributions, for a total of 40% tax relief. This is one of the biggest benefits of saving into a pension – getting tax reliefs on everything you pay in. But many higher-rate taxpayers don’t realise that this relief won’t happen automatically – you have to claim it. Here’s what you need to know about higher rate tax relief.
Tax relief is the principle that all the income you pay into a pension scheme should be exempt from income tax. But because income tax is usually paid at source (via PAYE if you’re an employee), this money is repaid to you on every pension contribution you make.
Basic rate relief of 20% is automatically added to your pension contributions and paid directly into the fund. If you are a higher rate taxpayer, things are a little more complex. You’ll be paying 40% tax on all your income over the higher-rate threshold, so can claim an extra 20% on this part of your income if you pay it into your pension. However, you have to actively claim this money via your self-assessment tax return.
Your annual earnings are £80,000, so you pay the higher rate of 40% tax on £30,000 of this. You put £35,000 into a private pension in that tax year. A basic rate tax relief of 20% is automatically applied on the whole amount.
You can claim an extra 20% tax relief on £30,000 (the amount you paid higher rate tax on) through your return or by writing to the tax office. There is no extra relief on the remaining £5,000 you put in your pension.
The extra tax relief offered to higher rate taxpayers makes pension saving at this level up to twice as rewarding as saving on a basic-rate income. Claiming all available tax reliefs is an important way of ensuring you are getting the most value out of your pension contributions.
In practical terms, making a pension contribution with higher-rate tax relief is like getting a boost of around 66% on the amount you pay in. Why 66%, when higher-rate tax is only 40%? This is because of how percentages work. For instance, if you pay 40% tax on £100 it is reduced to £60. But if you then pay that £60 into a pension, the income tax is repaid – making it up to £100 again. And £60 turned into £100 is an increase of (roughly) 66%. So in terms of value for money, higher-rate pension contributions really are hard to beat.
Talk to your employer about how they make pension contributions on your behalf, as under some systems (such as salary sacrifice) you may receive your tax relief in a different way. A financial adviser can also help, if you have several options to consider about how to make your pension contributions.
Unlike basic rate tax relief, you will need to actively claim higher rate tax relief on your pension contributions. You can do this in two ways: through your self-assessment or by contacting HMRC directly.
To claim through your self-assessment, you will need to do so online. You should go to the relevant section of the online form and state the exact amount of your pension contributions. This should be a gross calculation that includes your contributions and the basic rate tax relief of 20%. Not doing this is one of the most common mistakes people make. Your relief will either be supplied as a rebate at the end of the year, a reduction in your tax liability or a change to your tax code.
You can also write to your HMRC tax office. You will be able to find the relevant address on your P60 or payslip, and the letter should outline exactly how much you have paid. You will also need to provide personal details so that you can receive the tax relief. Bear in mind that you will need to submit a new letter every time you alter your pension contributions or your salary changes.
You can make backdated claims for higher rate tax relief on your pension contributions, but there is a time limit. You can only claim back any tax relief for the last four tax years. If you have only been a higher rate taxpayer for a short period, it should be simple to claim back some of the missing tax relief.
There is a cap on the level of tax relief you can receive. Your annual allowance (or the highest amount you can put into your pension each year) is currently £40,000 or 100% of your qualifying earnings. This means you can only receive tax relief on this amount. In addition, there is also a lifetime allowance that means you can draw a maximum of £1,073,100 from your pension without incurring additional charges. You need to be careful not to exceed this allowance without meaning to, so keep a close eye on your pension contributions. You can use our pension calculator to help you stay on top of things.
It is not only you and your employer that can contribute to your pension pot. Other people can also make pension contributions on your behalf, and you will receive tax relief on these too. In these instances, you would still receive basic tax relief automatically and would still need to claim the higher rate tax relief on the gross contribution based on your circumstances. The third party is not entitled to any tax relief on their contribution – it is counted as if you had made the contribution yourself.
If your taxable income is over £150,000 you’ll pay a tax rate of 45% on everything over this threshold. This means you can claim additional tax relief on that amount – an extra 5%, to give you 45% tax relief in total on all contributions from your income over this threshold. Again, you’ll have to claim it back via your self-assessment.
Talk to your financial adviser or accountant about maximising the value of your pension through tax relief.