While a high income has many benefits, it doesn’t necessarily lead to a high standard of living in retirement. So, just like everyone else, high earners can benefit from making pension contributions. This is especially true for women, who often face a smaller retirement nest egg due to the gender pension gap.
In this article, we are going to look at how pensions can play a key role in retirement investment strategies. We’ll also cover some strategies to help maximise pension contributions for high earners.
The role of pensions in retirement planning
In the UK, contributing to a pension is one of the best ways to accumulate wealth for retirement, particularly if you’re a high income earner. There are two main reasons why:
- Pension contributions come with tax relief. Currently, higher-rate taxpayers can get 40% tax relief on contributions while additional-rate taxpayers can obtain 45% relief.
- All capital gains and income generated inside a pension investment are tax-free. So, capital can grow free of tax-drag. This is particularly valuable now that the annual Capital Gains Tax (CGT) allowance has been reduced to £3,000.
How to make pension contributions as a high earner
In terms of making pension contributions, you have several options. One strategy is to make contributions from your post-tax income. With this approach, you’ll receive 20% tax relief at source. You’ll then have to claim the remaining tax relief you are entitled to through your self-assessment tax return.
Another strategy is to set up salary sacrifice. Here, your employer will reduce your salary and then pay the difference between your original salary and your new salary into your pension. This will result in a lower taxable income for you along with tax-efficient contributions into your pension account. Relative to making pension contributions from your after-tax salary, a salary sacrifice can be a more efficient way of gaining tax relief as you won’t have to worry about claiming it through your tax return.
If you’re a business owner, you can make contributions to your pension directly from your company. This can be a very tax-efficient way of building wealth as pension contributions are a deductible expense, meaning that they reduce your Corporation Tax bill.
Gaining maximum tax relief on pension contributions for high earnersÂ
If you’re looking to maximise your tax relief as a high earner, there are some things to be aware of.
The standard annual allowance for pension tax relief is £60,000. Yet if you have an ‘adjusted income’ of more than £260,000 per year and a ‘threshold income’ of more than £200,000 per year, your annual pension allowance will be tapered, meaning that you won’t be able to contribute the full £60,000 and receive tax relief. However, you may be able to contribute more than your annual allowance using ‘carry forward’ rules. These enable you to carry forward any unused annual allowances from the previous three tax years.
Another issue worth highlighting is the fact that, as a high earner, you will need to claim some of your tax relief via your self-assessment tax return if you make contributions from post-tax income. As noted earlier, when you contribute to a pension this way, you only receive 20% tax relief automatically. For example, if you were earning £150,000 and you contributed £10,000 to your pension, you would receive tax relief of £2,000 automatically. You would then have to claim the remaining £2,500 tax relief through your tax return.
Making the most of pension contributions
Of course, when it comes to building wealth inside a pension, contributions are only part of the story. You may want to put together a diversified investment portfolio that contains a mix of different assets (e.g. equities, bonds, and alternative investments such as commercial property and commodities).
By constructing a diversified investment portfolio, you can give yourself a better chance of generating strong returns over the long term. This, in turn, will give you a better chance of achieving your retirement goals.
How Bowmore can help
With their generous tax benefits, pensions can be a powerful retirement planning tool. Not only do they allow you to save for retirement tax-efficiently, but they also enable you to grow your capital free of tax-drag.
However, pension allowances can be complicated, and it can be hard to know exactly how you should invest your contributions. So, it can pay to speak to a professional before developing a long-term pension contribution strategy.
At Bowmore, we have decades of experience helping high earners with their pensions. We understand the challenges you face in this area of financial planning and we can help you navigate them.
To learn more about how we can help you with your retirement planning needs, please do get in touch.
- Bowmore Financial Planning Ltd is authorised and regulated by the Financial Conduct Authority
- The Financial Conduct Authority does not regulate Estate Planning or Inheritance Tax Planning.
- Bowmore Financial Planning Ltd is not regulated to provide tax advice.
- The value of your investments can go down as well as up, so you could get back less than you invested.
- The tax treatment of certain products depends on the individual circumstances of each client and may be subject to change in future
- A pension is a long-term investment not normally accessible until age 55 (57 from April 2028 unless the plan has a protected pension age). The value of your investments (and any income from them) can go down as well as up which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits.
The tax implications of pension withdrawals will be based on your individual circumstances, tax legislation and regulation which are subject to change. You should seek advice to understand your options at retirement.
