The Inland Revenue date for submitting those Self Assessment returns is looming on the horizon again. 31 January 2003 is the last date for submitting your return if you elected not to have the Inland Revenue calculate your tax bill back in September.With this in mind, we thought we should post a feature about ways that people can save money and reduce their tax bill.
We all know that we can get tax relief on personal contributions that we make. However, how many of you know that you can pay a pension contribution today and elect to have it carried back and treated as if it were paid in the last tax year i.e. 2001/2002. Thus reducing your tax bill for that year which is due for settlement on 31/1/03? As an extra bonus, did you know that you can even pay pension contributions if you have earned nothing or a lot lower in this tax year, you can choose your highest salary for the last five years as the basis for calculating the maximum that you can pay in.
Net Relevant Earnings - If you have not been a member of a Company Occupational Pension Scheme whilst working then your income at the time is deemed as "Net Relevant Earnings". This means that they are possibly relevant to contributions under a Personal Pension Plan arrangement or a Stakeholder Pension. You are allowed to make contributions to Stakeholder or Personal Pension Plans if you have net relevant earnings. The Inland Revenue will grant tax relief on contributions that you make. There are limits on what you are allowed to contribute based on your AGE at the start of the tax year (6 April). The maximum limit is a percentage set by the Inland Revenue.
For example the maximum for a 30 year old is 17.5% of Net Relevant Earnings. Even if you have been a member of a company pension scheme, provided you are not a Company Director or have not earned over £30,000 you can still contribute up to £3,600 into a Personal or Stakeholder Pension .5 Year Presumption of Earnings Rules you are still able to contribute to a plan within the normal limits based on your age and salary. However, if you have a higher earnings amount in the last 5 years then you will be able to use this as your earnings figure. E.g. A 39 year old is allowed to contribute up to 20% of Net Relevant Earnings. If earnings for this year are £20,000, then under old rules a maximum contribution could be made of 20% i.e. £4,000. If this person has earned more in the previous 5 years say £40,000 two years ago, then, under the new rules, the earnings are allowed to be presumed at £40,000 for pension contribution contributions for 5 years. This means that under the new rules the maximum contribution could be 20% of £40,000 i.e. £8,000.
Carrying Back to Reduce Tax Bill. Mrs X, who is 39 and self employed, earned £10,000 this year. However, last year she earned £50,000 and is facing quite a large tax settlement bill in January. If we assume that her calculated tax settlement bill due after previous payments is £2,000, she could elect to pay a pension contribution now based upon 20% of last years salary (using the five year rule) i.e. £10,000. She pays a net pension contribution in the current year now of £7,800 (£10,000 gross after 22% direct tax relief) but elects to have it treated as if paid last year. She claims her maximum tax relief on the Pension contribution i.e. 40% which is £4,000 a net cost of £6,000. Quite simply, she has recovered her tax - 22% (£2,200) reduces the cost of the £10,000 pension fund to £7,800 (what she paid in) and 18% of the tax relief is offset against her tax bill i.e. £1,800 thus taking her tax bill down from £2,000 to just £200. A massive 90% reduction in the tax bill due for settlement.
As you can see, the calculation is complex but financially well worth it if you take the time to seek professional advice.
Visit the Help Zone to get details of the many ways that we can help you.
For a free copy of a fact sheet on 'Tax Year End and Pensions' contact us.