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  • ReClaim Income Tax to Offset the Dreaded Taper Worm

    8th October 2017
  • The pension freedom legislation was good news for those about to retire and take benefits, however high earners who are still accumulating pension benefits have been dealt a hammer blow when trying to plan for their retirement.

    The pension Annual Allowance is set to reduce maximum annual contributions from 6th April 2016 to as low as £10,000.

    The Government intends to cut pension tax relief for high earners by introducing a tapered annual allowance for individuals with income of over £150,000 including any pension contributions, or over £110,000 excluding pension contributions.

    Before continuing, it is important to note; this tapering allowance applies not just to ‘pensionable earnings’ but ALL income, including dividends.

    The rate of reduction on the £40,000 Annual Allowance is by £1 for every £2 earned over £150,000 or £110,000, depending on whether pension contributions are attributed or not. The maximum reduction is £30,000.

    Example 1

    Susan earns £125,000 per annum and has pension contributions of £40,000 per annum. Her total ‘income’ is deemed to be £165,000 for Annual Allowance calculation purposes.

    Her earnings are £15,000 over the £150,000 threshold; therefore, her Annual Allowance will reduce by £7,500 to £32,500.

    If Jane continued to enjoy pension contributions of £40,000, the Annual Allowance excess charge is added to her taxable income - Increasing her income tax levy by £3,000.

    Example 2

    Anna earns £200,000 per annum and has pension contributions of £40,000 per annum. Her total ‘income’ is deemed to be £240,000 for Annual Allowance calculation purposes.
    Her earnings are £130,000 over the £150,000 threshold, therefore the Annual Allowance will reduce by £30,000 to £10,000.
    If Anna continued to make pension contributions of £40,000, her income tax levy would increase by £13,500.

    EIS and VCT

    As the Annual Allowance excess charge is not technically a tax levy (Government do not like to increase taxes, so they rename it a ‘charge’), these charges cannot be reclaimed through other tax reliefs. However, as income tax is being paid elsewhere it is possible to potentially ‘offset’ the charge against other investments such as EIS (Enterprise Investment Schemes) and VCT (Venture Capital Trusts), which offer income tax relief. These are usually deemed as higher risk investments, but they do come with Government ‘sponsored’ tax reliefs. Both have a number of potential tax reliefs, which can help capital gains, capital losses and inheritance tax, however in this example, we are only concentrating on income tax.
    There are numerous conditions which need to be meet, however both EIS and VCT offer income tax relief of up to 30%.

    So by way of example; If Susan invested £10,000 into an EIS or VCT, she would enjoy income tax relief of £3,000 after a qualifying period – equal to the Annual Allowance charge.
    There are numerous conditions which need to be meet, however both EIS and VCT offer income tax relief of up to 30%.

    So by way of example; If Susan invested £10,000 into an EIS or VCT, she would enjoy income tax relief of £3,000 after a qualifying period – equal to the Annual Allowance charge.

    If Anna invested into an EIS or VCT a sum of £45,000, she would enjoy income tax relief of £13,500 after a qualifying period – equal to the Annual Allowance charge.

    Please note: the value of these investments can fall as well as rise. You may get back less than you invested. Tax treatment varies according to individual circumstances and is subject to change.

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