Directors Pensions

Directors Pensions

Directors pensions remain one of the most tax-efficient ways for business owners and directors to accumulate wealth for retirement.

Tax relief at your highest marginal rate is available on all personal contributions and company contributions do not attract income tax or national insurance, unlike other benefits. Further, company contributions are treated as a business expense and, therefore, offset against profits when calculating the company’s liability to corporation tax.

 

Contributions of up to £40,000 per annum can be paid in to a pension on behalf of the directors and provided the current financial year’s allowance is fully used and the director was a member of a registered pension scheme during that time, it is possible to go back three years and “carry forward” unused allowances which means a lot more than £40,000 could be paid in for a director’s benefit.

Put aside the word “pension” for a moment and think of it like this – a pension is a way of extracting business profits tax-efficiently for the benefit of a director or business owner to help fund their retirement. Yes, you can’t spend that money now but it will grow free from most taxation and when you retire it will provide a tax-free lump sum and an income for life thereafter.

Since the new pensions freedoms were introduced in April 2015 the tax rules were changed to give people greater access to their pensions. Drawdown of pension income is taxed at marginal income tax rates rather than the previous rate of 55% for full withdrawals.

 

The tax-free lump sum continues to be available. There are six options available including, leaving the pension pot untouched, purchasing an annuity, getting an adjustable income (Flexi Access Drawdown), taking cash in chunks (Uncrystallised Funds Pension Lump Sum), cashing in the whole pot in one go and mixing any of the options.

 

However, taking professional financial advice is essential to avoid unwelcome tax charges arises as in the case of cashing in your pension pot, anything above the 25% tax free allowance could be taxed at your highest marginal rate.

 

Things to consider

 

  • HMRC limits – the annual allowance for contributions is £40,000 and subject to earnings, and unused annual allowances can be carried forward from the previous 2 years. However, higher earners may have their annual contribution limit reduced to as low as just £10,000 per annum for someone earning £210,000 per annum.
  • HMRC limits – The lifetime allowance for a pension fund has also been reduced to £1 million since 6th April 2016 having previously been as high as £1.8m in 2011. Unless pension protection has previously been applied for in respect of larger funds, any pension savings in excess of this limit will be subject to a lifetime allowance tax charge. If it is taken as a lump sum it is 55% and if it is taken as a pension it is 25%.
  • Legislation – The rates and limits on pension tax-relief are set by government legislation. As with all legislation, these are subject to change in the future.
  • Values – The investments held within a pension can fluctuate in value and are not guaranteed, neither are the benefits as retirement which will be affected by economic circumstances.
  • Registration – The pension scheme must be registered with HMRC in order to benefit from tax relief.

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