Pensions are key to higher rate tax grab

24 January 2022

The 1.2 million additional workers set to be pulled into the higher rate tax band as a result of the Government’s decision to freeze the personal tax allowance should use pensions to reduce their income tax, according to Aegon.

Analysis by the House of Commons Library found that more than 1.2 million additional workers will find their earnings going over the 40% tax threshold over the next four years due to the freezing of the threshold at £50,270.

As a result, many families face a double whammy of higher tax and losing their child benefit.

However, Aegon said that by increasing pension contributions, people could receive the triple benefit of paying less income tax, receiving the full child benefit and receiving 40% tax relief on pension contributions.

Kate Smith, head of pensions at Aegon, said: “By 2026, over 1 million more people will be dragged into the higher rate tax band due to the freezing of tax thresholds. In January 2013, the government introduced new tax rules for high earners who receive child benefit. Where an individual or their partner has pre-tax income of more than £50,000 a year, their entitlement to child benefit is impacted by a tax charge. Where pre-tax income is between £50,000 and £60,000 a year, individuals claiming child benefit have to pay part of it back. And if pre-tax income is higher than £60,000 a year, the whole amount has to be repaid to HMRC.

“These ‘High income child benefit’ thresholds have been frozen now for eight years, dragging more people into scope and losing out child benefit payments. There seems little likelihood that the thresholds will be increased while income tax thresholds are frozen.

“With careful tax planning individuals dragged above the thresholds could pay a personal pension contribution large enough to reduce their income to below £50,000 a year. By doing so, they could receive the triple benefit of less income tax, full child benefit payments and 40% tax relief on their pension contributions.”

Smith added that receiving the full child benefit could make a “real difference” to a family’s immediate financial wellbeing while increasing pension contributions will help people save for later life.

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