5. Taxation and Your Pension Scheme
Understanding Tax Relief
If part of your contribution comes from income below taxable levels, no tax relief will currently be available on that part. Please refer to your payroll administrator or professional adviser for assistance if you want an explanation of the tax rules applicable to your circumstances.
There are two HMRC approved methods for paying contributions into a Pension Scheme:
1. Net Pay Arrangement
The current method of paying contributions into Smart Pension is under HMRC's 'Net Pay Arrangement'. Despite its somewhat confusing name following the definition set out by HM Revenue & Customs, this arrangement ensures that 100% tax relief is achieved via payroll. This is because all contributions are paid over to Smart Pension 'Gross', thus removing the need to claim the higher and additional relief via Self-Assessment.
Note – a Net Pay Arrangement will not provide a 20% tax credit to employees earning below their relevant personal allowance for income tax.
2. At Source
An alternative method for paying contributions is under HMRC's 'Relief at Source' arrangement, where the payroll calculates 20% tax before employee contributions are paid to the scheme. As this employee contribution gets paid to the pension 'Net' of 20% tax, the provider must reclaim this 20% tax from HMRC. Please note that Smart Pension does not currently offer this method of claiming tax relief.
Note – employees who pay tax at the higher and additional rates will be required to complete a Self-Assessment to claim their full tax relief.
For more information please visit: http://www.hmrc.gov.uk/manuals/rpsmmanual/rpsm04200040.htm
National Insurance (Social Security)
Both employee and employer pension contributions are exempt from tax, however, under National Insurance this is not the case:
- Employer Contribution – Exempt (NI relief can be obtained)
- Employee Contribution – Not Exempt (NI Relief cannot be obtained)
Your Pension Scheme
The Autoenrolment.co.uk Master Trust (your pension scheme) takes contributions** from you and your employer to pay into your pension pot. These contributions are received from your employer without deduction of income tax via 'net pay arrangement'. By not charging income tax as usual on these amounts, the Government is also contributing to your pension pot (although you will be charged income tax when you take income from your pension after retirement).
How is income tax relief obtained on your Smart Pension contributions?
As tax relief is obtained through the government top up, an employee's minimum contribution of 1% is broken down to a contribution of 0.8% from the employee with the government topping up the additional 0.2% to make the full 1%. The contributions are taken from the gross salary (before tax is deducted) - allowing for the tax relief.
For example, if you pay say £10.00 then the net amount deducted from pay is £8.00 (the government tops up the additional £2.00 via tax relief). With the employer's contribution of £10.00 this means your savings of £8.00 immediately become £20.00 in your pension fund.
For most members of the Smart Pension scheme this net pay arrangement gives members full tax relief, but scheme members who would not normally pay income tax on all their contributions will not get that tax relief (because part or all of the income they contributed was below the starting point for income tax). However, this doesn't affect the amount that is paid into your pension and you'll continue to benefit from the money that your employer pays in.
** Click here to learn more about the legal required minimum contribution levels (including the government's tax relief top-up) and planned pension contribution increases (contribution phasing).