With the Scottish Government raising income tax yet again, pension tax relief has never been more valuable - Steven Mearns of TaxAssist Accountants explains...

There are two broad types of pension schemes from which an individual may eventually be in receipt of a pension:

1. Workplace pension schemes
2. Personal pension schemes

All employers have to provide a workplace scheme due to "auto-enrolment" rules albeit there are minimum amounts that the employee needs to be earning before the employer is legally bound to make pension contributions.

For the self-employed and company directors, a personal pension scheme will be the norm. Many employees might choose to have a personal pension also, either in addition to, or in place of a workplace pension.

In this article I have tried to help the reader understand how making pension contributions affects the amount of tax that we pay, and to think about the "tax cost" of your money so you understand the cost of not making a pension contribution.

It is important that professional advice is sought on pension issues relevant to your personal circumstances. The examples below assume a Scottish taxpayer who is eligible to make the pension contributions described below at the 2023-24 tax year rates. 2024-25 tax year rates are even higher so the savings would be even bigger.

Example 1 - Limited Company Director

Consider a Limited Company that makes excess profits of £10,000 that the Owner does not need to withdraw as a Dividend. If the owner does nothing the Company will pay Corporation Tax of 19% x £10,000 i.e. £1,900.

If the Company instead made a Pension Contribution of £10,000 the Corporation Tax bill would be £0.

Example 2 - Self Employed Individual

A self-employed person makes a taxable profit of £47,000. They make no pension contributions, and they have a tax bill of £7,783.05.

Had they made pension contributions of £10,000 their tax bill would have been £6,957.07, and the pension will claim additional tax relief on their behalf of £2,500. So by making a £10,000 pension contribution they have benefited by £3,325.98.

The higher the profit, the more the contribution would have saved in tax.

Example 3 – Employee

An employed person, being paid via PAYE, earns £47,000 and decides to make a personal pension contribution of £5,000. This contribution would generate a tax refund of £763.48, and the pension would claim additional tax relief on their behalf of £1,250. So by making a £5,000 pension contribution they have benefitted by £2,013.48.

So as you can hopefully see there is a "tax cost" to choosing not to make a pension contribution and although making pension contributions will not be right for everyone, I see it as critical that everyone understands the rules.

For more information, please get in touch with TaxAssist Accountants on 01330 700580.