Thursday, September 21, 2006 :
Personal pension contributions tax return
I was trying to fill in my tax return the other night and no–one I asked knew the answer to this question, which is not entirely obvious, so having looked into it, I thought I would share what I now believe to be the correct answer here.
The issue is that you get tax relief on pension contributions. But what do you have to do to make sure this happens?
If you pay only basic rate tax (22%), you don’t have to do anything. You make your payments out of your post–tax pocket and the pension company automatically reclaims the basic rate tax that you have already paid from the Inland Revenue and adds it to the amount going into your personal pension fund.
If you pay higher rate tax, the same thing happens at the pension fund side, in that they claim the basic rate tax back and add it to your pot automatically. But the money you’ve paid the pension fund with has been taxed at 40%, not 22%. So you have to fill in a tax return to claim back the difference.
The tricky bit is knowing what figure to fill in on the tax return. Do you fill in the amount you actually paid, the amount you actually paid plus the tax you’ve already paid (i.e. adding the 40% back on) or something else?
The answer is something else. You put on your tax return the amount you actually paid plus the basic rate tax on that amount (i.e. you multiply by 100/78). The reason is that this is the actual amount that has ended up in your pension pot, because the pension people will have claimed the 22% tax back from the Inland Revenue. It is the amount that actually goes in your pot that the Inland Revenue need to know in order to figure out what tax you should be getting back.
If you are a higher rate tax payer, what happens is they say “OK, this guy has got X quid in his fund, which includes an amount of basic rate tax. So we’ve given 22% of the amount to the pension fund. We therefore need to make sure that this guy gives us that 22% so we’re back at zero, and that the fella pays no further tax on the amount that has gone into his pot”. The way they do this is by increasing your basic rate limit by the amount of what has gone into your pot, so that you end up reimbursing the Inland Revenue through your tax for the amount that the pension fund has claimed off them (i.e. basic rate tax on the amount in the pot), but making sure that you are not charged any higher rate tax on that amount.
Meet me for a beer sometime and we can work it through on a beermat.
I'm pretty sure it's right you know bandy but a beer would be good in any event.
It's just not the same unless (like me) you fail to send it in until July/August of the following year, by which time you owe over a thousand pounds in estimated tax and penalties and have been threatened with legal proceedings, but always safe in the knowledge that you don't earn sufficient income from your current account to mean that you will ever have any actual tax liability and therefore the estimated tax, penalties and interest will be cancelled.
"I also like to live dangerously."
Get online and get it in on time!
The actual reason why I try to do it sooner rather than later is that if I left it until next year, I will undoubtedly have lost all the relevent P60s etc.
However, I agree that penalties are not a likely problem. Due to my Croesus-esque savings, the result of all those calculations, was, I kid you not, that I owe the Inland Revenue the princely sum of £2.90 for last year.
Sounds like Gordon Brown's going to meet his Golden Rule after all...
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