Everyone knows they should save for retirement. However, not enough people understand how to do it in a way that maximises their money and minimises their tax bill.
Too many people miss out on thousands of pounds worth of tax relief and employer contributions simply because they haven’t optimised their pension strategy.
This guide will help you understand the less obvious aspects of pension tax planning.
We’ll explore practical ways to make your contributions work harder, reveal strategies many financial advisers don’t discuss, and show you how to avoid common oversights that could cost you money.
Let’s dive into making your pension work harder for your future.
Understanding Pension Tax Relief
Think of pension tax relief as the government giving you back the tax you’ve already paid on money you put into your pension. It’s more generous than most people realise.
When you contribute £100 to your pension, you’re actually only paying £80 if you’re a basic rate taxpayer, as the government adds £20.
If you’re a higher-rate taxpayer, you can claim back even more through your tax return – up to £40 for every £100 contributed.
This relief applies to up to 100% of your earned income or £60,000, whichever is lower.
How Relief Works in Practice
There are two main ways pension tax relief is applied, and which one affects you depends on how you contribute to your pension.
Most personal pensions use ‘relief at source’. This means you pay in money after you’ve paid tax on it, and your pension provider claims basic rate relief automatically. If you’re entitled to more relief, you claim it through self-assessment.
Many workplace pensions use ‘net pay arrangements‘. Here, your pension contributions come out of your pay before tax is calculated. This means you get full tax relief immediately without having to claim anything back.
Understanding the Tapered Annual Allowance
For high earners, pension tax relief becomes more complex due to the tapered annual allowance.
This reduces the standard £60,000 annual allowance for those with higher incomes.
The taper applies if you have:
- Threshold income over £200,000 (broadly, your income before tax, excluding pension contributions)
- Adjusted income over £260,000 (broadly, all income including pension contributions)
If both these limits are exceeded, your annual allowance reduces by £1 for every £2 of adjusted income above £260,000. The maximum reduction is £50,000, leaving a minimum annual allowance of £10,000.
For example:
- If your adjusted income is £280,000, your annual allowance reduces by £10,000 to £50,000
- If your adjusted income is £310,000, your annual allowance reduces by £25,000 to £35,000
- If your adjusted income is £360,000 or more, your annual allowance reduces to the minimum £10,000
Making the Most of Workplace Pensions
Workplace pensions offer unique advantages that many people don’t fully utilise. Your employer must contribute a minimum of 3%, but many offer much more generous schemes.
Some employers use matching schemes where they’ll increase their contributions based on how much you put in. For example, your employer might offer to match up to 10% of your salary. If you’re only contributing 5%, you’re missing out on free money.
Yes, contributing more means less take-home pay now, but the long-term benefits often far outweigh the short-term cost.
Salary Sacrifice: An Extra Layer of Savings
Salary sacrifice takes the tax efficiency of pensions even further.
Instead of you making pension contributions, you agree to reduce your salary, and your employer pays the reduced amount directly into your pension.
The advantage? You save on both income tax and National Insurance contributions. Your employer saves on their National Insurance too, and many pass some or all of these savings back to employees as additional pension contributions.
Tax Relief for Non-Taxpayers
Many people assume you need to be paying tax to benefit from pension tax relief. This isn’t true. Even if you don’t pay Income Tax, you can still get valuable tax relief on pension contributions.
The government allows non-taxpayers to contribute up to £2,880 per year into a pension and receive basic rate tax relief. This means the government adds £720 (20% tax relief), bringing the total contribution to £3,600.
This is particularly valuable for:
- Stay-at-home parents
- People taking career breaks
- Part-time workers earning below the tax threshold
- Students with some earnings
- Early retirees managing their income
You can make these contributions monthly (£240 per month) or as a lump sum. The pension provider claims the tax relief automatically – you don’t need to do anything else.
This relief can also benefit children’s pensions. Parents or grandparents can contribute to a pension for a child, getting the same tax relief even though the child has no earnings.
Understanding Carry Forward
The carry forward rules are one of the most powerful but underused features of pension tax relief. They let you use any unused annual allowance from the previous three tax years, potentially allowing much larger pension contributions.
This is particularly valuable if you:
- Have irregular income
- Receive a large bonus or inheritance
- Have built up a successful business
- Want to reduce a significant tax bill
- Are catching up on pension savings
- Are approaching retirement
To use carry forward, you must meet two main conditions:
- You must have been a member of a registered pension scheme in the years you want to use (even if you didn’t contribute)
- You must have enough earnings in the current tax year to cover the total contribution
Here’s how it works in practice:
- First, use your current year’s allowance
- Then work backwards through the previous three tax years, using up the oldest year first
- Factor in any contributions made in those years (including employer contributions)
- Consider whether the tapered annual allowance applied in those years
For example, if you haven’t made any pension contributions in the last three years, you could potentially contribute up to £240,000 in the current tax year (£60,000 x 4).
However, things can get complex if:
- You’ve been subject to the tapered annual allowance
- You’ve already accessed pension benefits flexibly
- You’ve made contributions in previous years
- Your earnings have fluctuated significantly
This is why it’s crucial to get professional advice when planning large pension contributions using carry forward.
At Double Point, we can help you calculate your available allowances and structure your contributions in the most tax-efficient way. Contact us to learn more.
Inheritance Tax and Pensions
A major change is coming to how pensions are treated for inheritance tax (IHT) purposes. From 6 April 2027, most pension funds and death benefits will be included in your estate when calculating IHT.
This represents a dramatic change from the current rules, where pensions usually sit outside your estate for IHT purposes. The change will affect how people plan their retirement and estate planning strategies.
Key points to understand:
- The change applies to most types of pension schemes
- Death benefits paid as lump sums will be included in your estate
- The timing of pension withdrawals may become more important for tax planning
- Existing protection arrangements may need review
- The change could affect decisions about when to access pension benefits
This makes it more important than ever to consider your pension as part of your broader estate planning. Planning ahead is vital. We can help you optimise your assets ahead of the deadline.
Take Action with Double Point
Optimising your pension contributions isn’t just about putting money aside – it’s about making sure every pound works as hard as possible for your future.
At Double Point, our team of chartered accountants can help you create a personalised pension strategy that maximises tax efficiency while meeting your retirement goals.
We’ll help analyse your finances, from your current earnings to your future plans, so you can make informed decisions about your pension contributions.
Book a consultation with us today, and let’s make sure you’re making the most of every opportunity to build your retirement fund while minimising your tax bill.
