The new tax year started at the beginning of April, and already it is proving challenging for many of us.
The cost of living is spiralling, and interest rates are starting to follow. This has left many of us worrying not just about our current finances, but about the longer term effects on all our financial arrangements, and especially our pension pots.
What’s more, the new tax year has some hidden threats.
At Continuum, we are looking at how your pension plans might need to change to deal with those threats in 2022/23.
How the tax year affects your pension
In the wake of Covid, the Chancellor seemed to be generous in his freezing of allowances. The exchequer faces a huge shortfall, and many observers expected swingeing increases in tax to pay for it.
His decision to keep all rates the same for the new tax year allowed us all to breathe a sigh of relief. But there is a problem hidden behind his beneficence. While he has not increased the rates of most taxes, he has ensured that we will actually be paying more.
The combination of inflation and the Chancellor’s freeze on allowances may mean that you will actually find yourself paying more to the taxman in income tax, NI, and capital gains.
We are living in inflationary times – which means that we will need and want a larger income to maintain our standards of living. Whether we can persuade employers to dig deeper, or put in extra hours in our own business, more money coming in will be a priority.
But the taxman is waiting.
With the freezing of tax bands, upping our income to deal with high inflation means that many more of us will earn £50,270 or more. This means we will fall into the higher rate, 40% tax band, or the 45% additional rate if we earn more than £150,000 – at which point we will find ourselves facing even larger bills as our personal allowance is removed.
The chancellor’s largesse has been dubbed a stealth tax increase, because although we may work harder to earn more, the taxman will be able to take a bigger share.
But it might be possible to reduce the amount he takes, and your pension can help you do it.
Using your full pension allowance
Keeping your taxable income below £150,000 will avoid 45% (or additional rate) tax. Keeping it below £ 50,271 will take you out of higher rate (40%) tax and into basic rate at just 20%.
Of course, you can’t simply refuse to collect your salary for a month or two. You need to divert your money elsewhere. For most of us, increasing our pension contributions is the simplest answer.
This is known as salary sacrifice. By sacrificing an amount of pre tax salary, to contribute to your pension. however you need to be careful because for anyone who may be looking to purchase their own home sacrificing some of your salary may impact on the amount you could borrow. Once a salary sacrifice arrangement is entered into it is difficult to change
For 2022/23, you can make up to £40,000 contribution to your pension pot – and it might be possible to use part or all of this allowance to keep in a lower tax band.
Paying more into your pension is a good idea in inflationary times, and as long as you remain under the £40,000 annual limit, and the lifetime allowance of, currently, £1,073,100 the taxman will still be forced to pay into your pension pot alongside you.
You can also transfer income to your spouse or civil partner to make full use of their personal allowance.
You have always been able to use this route to keep more of your cash away from the taxman, but for 2022/33 it may be even more effective. As well as the usual income tax relief, you (and your employer) can offset some of the increase in the National Insurance Contribution (NIC) rate of 1.25%.
Employees, will save an additional 1.25% on any of their earnings they choose to give up in 2022/23 by avoiding the increase in National Insurance Contributions. Employers will save too and may be willing to pass some or all of this back to the employee.
There could be similar savings for directors of owner-managed companies. The increase in the NIC rates combined with dividend tax rates make the extraction of profits via pension contributions even more attractive.
What should you do?
Arranging a salary sacrifice needs careful planning. As always where tax is concerned, there can be some dangerous pitfalls to avoid.
This is of course where some expert help is vital. At Continuum we will be very keen to provide it – with a full pension review and forecast of the kind of pension you are looking at now, and the kind you could enjoy with some expert help.
The levels, bases and relief from taxation are subject to individual circumstances and may be subject to future change.
The information contained in this article is based on the opinion of Continuum and does not constitute financial advice or a recommendation to suitable retirement strategy, you should seek independent financial advice before embarking on any course of action.
