A pension is the most tax efficient way of saving for your retirement

1. Non-taxpayer

Angela is full-time carer with no taxable income. Her husband pays £120 into a stakeholder pension each month on her behalf.

Despite not paying tax, Angela is entitled to basic rate tax relief on the payments made by her husband:

Monthly payment	£120
Tax relief reclaimed by Stakeholder provider	£30 (20% of £150)
Total invested each month into Angela’s pension.	£150

2. Basic rate taxpayer

Alan earns £20,000 a year and pays a highest tax rate of 20%. He is entitled to basic rate tax relief on his personal pension contribution of £240 a month.

Monthly payment	£240
Tax relief reclaimed by personal pension provider	£60 (20% of £300)
Total invested each month	£300

3. Higher rate taxpayer

Stuart earns £80,000 a year and pays a highest tax rate of 40%. He makes a personal pension contribution of £960 a month.

Monthly payment	£960
Tax relief reclaimed by personal pension provider	£240 (20% of £1,200)
Total invested each month	£1,200
Additional tax relief claimed in Stuart's self-assessment return	£240 (20% of £1,200)

As Stuart pays higher rate tax on the total amount he contributes, he can claim additional tax relief on that amount. The additional tax relief is the difference between higher rate tax relief and the basic tax relief already reclaimed by his personal pension provider on his behalf.

Total invested for the year	£14,400 (£1,200 x 12 months)
Additional tax relief claimed in Stuart's self assessment return	£2,880 (20% of £14,400)
Stuart's total tax relief for the year will be	((£240 x 12) + £2,880) = £5,760

4. Marginal rate taxpayer

Lindsay earns £48,000 a year and pays a highest tax rate of 40%. She makes a personal pension contribution of £720 a month.

Monthly payment	£720
Tax relief reclaimed by personal pension provider	£180 (20% of £900)
Total invested each month	£900

As Lindsay’s total yearly pensions contribution (£900.00 x 12 = £10,800) is greater than the amount of her earnings which are subject to higher rate tax, she can only claim additional tax relief on the part of her contribution which is subject to higher rate tax.

The additional relief available to Lindsay is the difference between the two calculations below.

Without a pension contribution

If Lindsay had made no personal pension contributions in the year, her income tax liability would have been calculated as follows:

• Lindsay would have paid tax on income above her personal allowance of £6,475
• She would have paid a basic rate tax (20%) on the next £37,400
• She would have paid a higher rate tax (40%) on any remaining income.

Income above personal allowance =	£48,000 - £6,475 = £41,525
Income above basic rate band =	£41,525 - £37,400 = £4,125

So Lindsay’s tax bill would have been:

£37,400 x 0.20	£7,480
£4,125 x 0.40	£1,650
Total	£9,130

With a pension contribution

Because Lindsay contributes a total of £10,800 to her personal pension in the year, her income tax liability will be calculated as follows:

Her tax bands are the same except that her basic rate band is increased by the total yearly amount invested in her personal pension. So she’ll pay basic rate tax on up to £37,400 + £10,800 = £48,200

Income above personal allowance =	£48,000 - £6,475 = £41,525

The remainder is less than Lindsay’s revised basic rate band, so she’ll pay basic rate tax on it all.

So Lindsay’s tax bill will be:

£41,525 x 0.20

£8,305

So Lindsay can claim additional tax relief of £9,130 - £8,305 = £825 in her tax return.

So her total tax relief for the year will be (£180 x 12) + £825 = £2,985