Hi,
I came across this question on personal pension contribution relief.
Taxable income: £87500
Previous years' gross personal pension contribution: £6000/year
consider to make the maximum possible amount of additional gross personal pension contribution for the tax year, but only to the extent that the contribution will attract tax relief at the higher rate of income tax.
The question: advise the amount of additional gross personal pension contribution one can make for the tax year which will benefit from tax relief at the higher rate of income tax, and explain why this is a tax efficient approach to pension saving.
The provided solution:
For 2019/20, £(87500-(37500+6000))=£44,000 of one's income is currently taxable at the higher rate of income tax.
This is less than the available annual allowaces of £(40,000*4-6,000*4)=£136,000 for 2019/20.
Resstricting the amount of personal pension contributions to the amount qualifying for tax relief at the higher rate will minimise the cost of pension saving because each £100 saved will effectively only cost £60 (£100 less 40% tax relief).
My two questions:
1. Is the amount of pension pension contribution that qualifying for tax relief at the higher rate: £44,000?
2. What does it mean by each £100 saved will effectively only cost £60 (£100 less 40% tax relief)? I don't understand the rationale behind the calculation.
--Follow up--
I seem to have caused up a lot of heat and even attracted an AWEB team moderator to contact me directly for being impolite.
I feel I have to make a few clarifications. And I would apologise in advance to anyone if my follow apologisation even causes more grievances:
1. Re dismissive tone. I am not sure which part of follow-up question is perceived as dismissive? But I suspect the dismissve perception might have come out of the taxable income clarification I made in the replying threads (re the 12500 PA deduction against the £100,000 total income figure). But I feel I had to clarify, cause I was being accused of asking questions by not giving the entire picture or even copying wrong information. But the PA is irrelevant here, so changed the question to give a more concise summary without losing key information, else the question looks long.
2. Re impolite for not giving appreciation in Matrix spending time and giving explanation. I'll admit I failed to thank him before his callout. In ramification, I clicked the "Thank you" upvote button not only to his explanation thread, but also to Gainsborough who make the clarification that the question comes from a revision kit. Perhaps "Thank you" upvote button isn't enough. I will bear in mind and give appreciation in full reply to anyone who does help in future, but not to those who make snarky comment but help.
3. The only thing I think I may have caused offense is perhaps come from the reply containing "Nevermind ...". In doing so, I sincerely apologise to Matrix.
I hope my follow-up commentary above satisfies every stakeholder who's interested in this unfortunate playout.
Replies (27)
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1. You need to redo your calculation by adding the personal allowance. Wouldn’t higher rate tax only be payable above £56,000?
2. If someone has paid tax at 40% then they get it back so for every £60 they put in they end up with £100.
I don’t know why the question assumes that it would be inefficient for a basic rate taxpayer to make contributions, you still get 20% tax relief. You don’t get higher rate tax relief since you haven’t paid higher rate tax.
No no. 37500 + 12500 PA. You pay 40% after the first 50000
Up to 12500 0%
12501 - 37500 20%
37501 - 40%.
You would benefit from looking at the tax rates and thesholds.
No no. 37500 + 12500 PA. You pay 40% after the first 50000
Up to 12500 0%
12501 - 37500 20%
37501 - 40%.You would benefit from looking at the tax rates and thesholds.
You might want to check your numbers there.
Hi both. I teach ACCA TX, so have the benefit of seeing the whole question (which was updated from the 2016 exam).
Matrix - I think they found a lot of students were struggling to identify higher rate tax saved on pension contributions, so worded the question differently and doesn't really match what we might advise in real life.
So. yes to both your questions lukayl. Taxable income after PA is £87,500 (trade £100K-£12500). Your new basic rate band stretched is £43,500, so this leaves £44,000 taxed at the higher rate.
Matrix has already answered your second question (20% relief at source and another 20% relief given via stretching the bands).
Are you studying for this exam with a college? If so, would really recommend that you also seek help from your tutor.
Thanks. Well it would be helpful for students to put the whole of the question up in future. It says the taxable income is £87.5k and not £100k.
Exactly. I think a previous question posted asked about private mileage allowance but the mileage details from the question had been removed. Psychic abilities not one of my attributes :).
Could be a bit like doing skeleton crosswords for accountants(where the grid is not complete and one has to assemble it with the clues given) , you are only supplied with part of the question and the solution and the accountant then has to try to work out the missing information.
Taxable income is 87500. You don't pay tax on the first 12500.
Maybe its worded in a way only accountants would understand. But most of us do understand when something is referred to as taxable income it's after untaxed income.
No, Gainsborough has made it clear that the question was copied incorrectly and started with £100k.
That was not made clear in your post.
If a higher rate taxpayer pays £60 into a pension scheme then the pension provider reclaims 20% (£20), so the basic rate income tax. To obtain higher rate tax relief, the taxpayer includes the gross dividend on their tax return to obtain relief for the remaining 20% (£20). In practice the basic rate band is extended by the gross amount to achieve this relief.
The way I check when I complete tax returns is to take the net amount and gross it up so £60/o.6 = £100.
I would check your study notes since it will all be explained in there.
£100 is the income before tax. So, yes, £60 is the net amount.
£60/0.6 = £60 x 100/60 = £100
OK great. Would you like to thank everyone who helped you? If not then it may affect any help you get in the future.
lukayl,
Given the time and effort users have put into assisting you with your question, your response appears dismissive and impolite.
I would advise a more gratuitous reply to those offering you help in future.
Can I suggest a private message as well, Maddy, if you havent done it already, otherwise it is highly likely the OP will not see this (most only come back on when they think there is an answer pending, unlike many of the regulars who review most posts as a matter of course.)
Already done Cheshire,
I contacted lukayl earlier, but I decided to add a comment here as it's useful for other users like lukayl to see the response as well.
Much appreciated. Respnders do look to help, but really need the full question otherwise things just get more confused
Not all of them I hope, Matrix. I'm sure many, like me, remember having impeccable manners as a student.
lukayl wrote:
Matrix wrote:
£100 is the income before tax. So, yes, £60 is the net amount.
£60/0.6 = £60 x 100/60 = £100
But how is it benefit in this way? Like in the answer it says for each £100 saved will effectively only cost £60, so I only pay £60 in the pension contribution, how can I save £100 in return?
Nevermind, I tried my luck on YouTube to see if there is some video tutorial explanation out there, and I was directed to this link below:
https://www.which.co.uk/money/pensions-and-retirement/personal-pensions/...
I think I get the hang of it now.
1) You pay the pension company £80
2) The pension company claims £20 for the BR from HMRC , so your pension pot is better off by £100
3) If you're BR taxpayer that's it. You paid £80 and your pension pot goes up by £100
4) If you're HR taxpayer then:
a) you pay £80,
b)your pension pot increases by £100,
c)you claim HR relief on £100 through your tax return reducing your tax liability by £20 [£100 x (40-20)%]
d)the net cost to you is £60 [£80 paid to pension co less £20 HR tax reduction] but your pension pot has gone up by £100