We have written previously about the pension taper for high earners, but what about those who do not fall into this category? Everyone knows that pension contributions attract tax relief, but are there differences in the tax impact of the different ways to make those contributions?
If you trade through a company, you have two options for how to contribute to a pension scheme:

• You make personal contributions to a personal pension scheme
• Your company makes contributions to a company-operated scheme

What are the implications for taxation of both of these options?

Personal contributions to a personal pension scheme

Income is drawn from a company either in the form of dividends and/or salary. For 2020/21, the first £2,000 of dividend income is tax free, thereafter dividends are taxed at 7.5% up to the basic rate band and then at 32.5%. Salary will generally be taxed at 20% up to the basic rate band and 40% after.

If you make a contribution of, say, £80 to a personal pension, the Government will gross this up to a contribution of £100 to allow for basic rate tax relief. The contributions are also included in calculating your tax liability, with tax relief available at the higher rate if appropriate.

Therefore, in order to make a tax saving of 20%, the income you make the payment from will already have been taxed at least 7.5%. This represents a net tax saving of 12.5%.

In this scenario, the company is not able to make a corporation tax saving on the dividends paid.

Company contributions to a company-operated scheme

As there is no Government grossing up for company pension scheme contributions, the company will need to pay £100 into the scheme to achieve the same level of contribution as in the previous example. However, this payment is deductible for corporation tax purposes, attracting a tax saving of 19%. This is a greater tax saving, when considering personal tax and corporation tax together, than when keeping a pension scheme as a personal one.

This blog is viewing the contributions purely from a tax perspective – advice should always be taken from an Independent Financial Adviser when looking into these options.

If you would like more information on this, or how to go about finding out which is right for you, please get in touch.