Let’s say you earn over £100,000 a year. You probably feel mildly irritated by the removal of your personal income tax allowance. It used to be that everyone had a universal right to earn seven grand or so without paying tax. No more. Today the allowance – currently £7,475 – is no longer a right granted to those the state considers to be high earners. Make more than £100,000 and it is progressively withdrawn – for every £2 you earn you lose £1 of the allowance until, at £114,950, it is all gone, giving you a marginal tax rate of 60% and making you wonder if getting up so early is really worthwhile after all.
You will be pleased to hear then that there is a way to claw something back. How? Via the pension system. Richard Evans, writing in The Daily Telegraph and using figures from Vince Smith-Hughes of Prudential, uses the example of someone earning £114,950 a year. He makes a pension contribution of £14,950. This brings his taxable income down to £100,000. So he gets his personal allowance back, saving him £2,990 in tax. Then he gets his 40% tax back on the contribution, adding another £5,980. That means he has bumped up his pension by nearly £15,000 for a total cost of less than £6,000.
But it doesn’t end there. If he’s over 55, he can also take 25% of his pension pot out in a tax-free lump sum. That would mean immediately withdrawing £3,737, leaving a pension contribution of £11,213 behind. Add the £3,737 to the tax savings made and the net result is that the saver in question has paid a mere £2,243 for the £11,213 of pension. Very satisfying.
Anyone earning up to £150,000 can use this trick to get their personal allowance back (assuming they’re prepared to lock most of the money into a pension). It won’t work for those on more than £150,000 because pension contributions are now capped at £50,000 a year. But high earners can earn between £150,000 and £200,000 and avoid the 50% tax rate should they want to. Earn £180,000 and put £30,000 into a pension and you won’t be bothered by the 50% rate at all – unless your income is still over £150,000 when you retire.
For over-55s on very high incomes, there is still something clever to do. Let’s say you pay £50,000 to your pension at age 55 when you are still earning £200,000. Add back the tax relief and your net cost is £25,000. Then take out 25% (£12,500). The net cost of the contribution is now £12,500, but you have an extra £37,500 in your pension. Also satisfying. Still, don’t think the Lib Dems haven’t noticed these loopholes. If you want to use them, do it soon.