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# Paying into a defined pension scheme to reduce tax band

Paying into a defined pension scheme to reduce tax band from 40% to basic 20%

Mr A has made a capital gain of £320k

Mr A is a 40% tax payer therefore CGT would be payable at 28% but Mr A would like to pay CGT at 18% by making his employment income only subject to 20% tax.

What he intends to do is pay salary subject to 40% band into pensions before his employer pays his monthly salary (salary exchange or smart pension), this way his taxable income is reduced through PAYE.

Capital Gain 320,000

CGT at 28% 89,600

CGT at 18% 57,600

Gross Income 80,370

Pension contribution 39,200

Revised Gross Income 41,170

Personal Allowance 10,600

Benefit in Kind 891

Revised Personal Allowance 9,709

Taxable Income 31,461

Tax calculations Basic rate 20% @ 31,461 = 6,292.20

Higher rate 40% @ 0

National insurance NI PA 8,060.00 = 0

NI at 12% 33,110.00 = 3,973.20

NI at 2% 0.00 = 0

Hello, I am Keith, one of the experts on Just Answer, and pleased to be able to check your figures. As far as I can see tour scenario appears correct. I do hope I have set your mind at rest on this matter.
Customer: replied 2 years ago.

Hi

Mr A's employer will pay around £6,000 regardless of Mr A's personal contribution.

Therefore, if Mr A makes a personal contribution of £39,200 that will make total contribution of £45,200. Above the £40,000 limit.

What is the impact of going over the limit? Mr A will not get tax relief of anything over £40k?

I heard that past 2 years unused allowance can be used retrospectively?

Customer: replied 2 years ago.

ok thanks.

the main purpose of Mr A is to reduce his tax band in FY15/16.

Option A is to sacrifice over the next 7 months £5,600 per month (total £39,200), then this gets deducted before salary is paid consequently no tax is charged through PAYE.

Option B is say in Mar-16, Mr A sends a cheque for £39,200 to his pension provider (Scottish Widows), then claims tax relief when submitting a tax return for FY15/16.

Would option B still make Mr A lower band (20%) tax payer for that year? Therefore still able to pay CGT at 18% on the capital gain.

Option A is feasible. Option B is feasible also, but you did state earlier that Mr A's employer is also paying in to the pension scheme and the combined contributions may not exceed 40K so there might be a problem here. Capital gains tax is levied at 18% or 28% or a combination of the two rates depending on the income including the gain in the tax year of sale. With Mr A's income just squeezed under the 20% tax bracket wire the capital gains would be likely charged at 28%. I am so sorry to have to rain on your parade. Please be so kind as to rate me before you leave the Just Answer site.
Customer: replied 2 years ago.

You been really helpful so far. I will rate you...just need a bit more clarification.

Total contributions including employers will be around £45k. Its over £40 but the rules state that previous three years unused allowance can be utilised. I confirm that Mr A has a lot of unutilised allowance, say just last year alone around £34k. Therefore this part is ok.

Mr A's taxable income will be £31,461 after contribution into the pension with the 20% band.

Can you please clarify further what you mean by "Capital gains tax is levied at 18% or 28% or a combination of the two rates depending on the income including the gain in the tax year of sale."

Why would the below happen if Mr A becomes a 20% rate tax payer in the year capital gain arose?

Is capital gains added to salary income to work out the total income for the year and then applying the CGT rate?

My understanding was that CGT is not added to say salary income.

"With Mr A's income just squeezed under the 20% tax bracket wire the capital gains would be likely charged at 28%."

Mr A is right on the cusp of the 20% tax bracket, but CGT is levied on the income including the gain, the gain is added to the income, so in this case he would have no slack to absorb and any gain taxed at 28%.
CGT is not added to any other income, but for taxation purposes the gain itself is aggregated with all other income to determine the rate of CGT.