Am I a higher rate taxpayer

[daveh]

Probably best just to ignore this post!

Groan! I wish I could offer help here, but I can't. When it comes to understanding income tax under the present system, I've pretty well given up. I used to deal with my yearly income tax affairs in about 2 - 3 mins using one standard small sized sheet of a Post-It Note.

The key to understanding this is that the "dividend allowance" is not a "tax free allowance", in reality it is a "taxed at 0% band"
Same goes for the "personal savings allowance" - not tax free, just taxed at 0% rate.

It may well be the key, but I still fret over the first year of the introduction of this system, where AFAICS, the "personal savings allowance" - but not the dividend allowance - WAS added to my "tax free allowance".

be glad you don't live in Scotland! Not only are there more tax bands, but the 40% tax band is different for earned and unearned income. As I understand it - so don't take this as gospel - in 17/18 the 40% tax band for Scotland starts at £33,501 (plus the personal allowance which is the same as in the UK) but as taxation of non-earned income is a not a devolved matter the higher rate tax band that applies to interest and dividend income is the rest of the UK band which is higher than in Scotland. And I have no idea how that actually works in practice!

[Lootman]

the 40% tax band is different for earned and unearned income.

As an aside I really dislike the term "unearned income" as it somehow implies that it is income that you get through no effort or energy. Whether as an investor or a landlord, I have always felt that any income I thereby derive does indeed involve effort, as well as an appetite for risk and understanding.

Likewise I regard a pension income as "earned" as well, due to the many years of contributions that were made.

My aversion is perhaps due to the way some regard "unearned" income as undesirable or even immoral, and seek to tax it at a higher rate, as it was before Thatcher. The more contemporary view is that "unearned" income should actually be taxed at a lower rate, reflecting the risks taken, precisely to encourage such risk taking.

The terms "employment income" and "non-employment income" seem preferable to me, and less emotive.

[daveh]

the 40% tax band is different for earned and unearned income.

As an aside I really dislike the term "unearned income" as it somehow implies that it is income that you get through no effort or energy. Whether as an investor or a landlord, I have always felt that any income I thereby derive does indeed involve effort, as well as an appetite for risk and understanding.

Likewise I regard a pension income as "earned" as well, due to the many years of contributions that were made.

My aversion is perhaps due to the way some regard "unearned" income as undesirable or even immoral, and seek to tax it at a higher rate, as it was before Thatcher. The more contemporary view is that "unearned" income should actually be taxed at a lower rate, reflecting the risks taken, precisely to encourage such risk taking.

The terms "employment income" and "non-employment income" seem preferable to me, and less emotive.

I agree, but I thought unearned income was what it was called by HMRC. I actually don't mind paying a bit more tax for the extra benefits we get in Scotland like free prescriptions, free eye tests, better dental care (ie free check ups and not the stupid banded system for other treatments) etc, but I wish they hadn't complicated the system for political reasons.

[spigot]

Sorry to hear your husband has passed away Boulversee.
If your husband had any ISAs I do hope you have taken advantage of the relatively new facility of transferring them to you. If not you have 3 years to claim. Good luck sorting your tax position out.

[XFool]

The media and talking heads don't make things any better. If you contribute to a pension, as I understand it, most people pay no tax on contributions. Hence a standard rate tax payer gets a uplift of the 20% tax they paid while the higher rate tax payer gets 40%. This is described as regresive! The bloody talking heads claim that the government is giving that contribution rather than not taking the tax at that point.

This is a pet 'thing' with me too, despite it certainly being of no practical significance to me now.

Nowadays this is sold as a government 'bonus' or tax 'incentive'. I don't believe it to be such. OK, a quid pro quo for having a non state pension but, fundamentally, no personal income tax charged on no income received by the individual.

With a DB type company pension the pension contributions were directed straight into the pension fund before any NI or PAYE tax was even deducted, therefore it wasn't income received by the employee - so no income tax due! Many on company schemes probably didn't even originally realise they were not taxed on pension contributions. I know I didn't. The government tax 'boost' to private pensions because, in this case, the individual made the pension contribution from already taxed nett income and so the tax already paid was refunded.

Why the change in attitude? I blame the 1980s and all those mis-sold private pensions. 'Psst! Mister, take out a private pension, get tax relief on your contributions. It's all legal, they can't touch you! Sign here...'

OK, it makes 'saving' via a pension a good idea for HR taxpayers (due to likely different tax levels at contribution and payout) but so what? If you think this 'unfair', i.e. you think HR taxpayers are not paying enough, then, logically, raise HR tax to more than 40%. The tax advantage goes up, but so does the tax. I am not asking for HR tax to be raised, just making a point.

But we don't seem to think this way anymore. For myself, I am of the opinion that the way we think about pensions has, over the years, become increasingly, subtly distorted and the tax 'incentive' notion is but one example out of several.

[spigot]

The media and talking heads don't make things any better. If you contribute to a pension, as I understand it, most people pay no tax on contributions. Hence a standard rate tax payer gets a uplift of the 20% tax they paid while the higher rate tax payer gets 40%. This is described as regresive! The bloody talking heads claim that the government is giving that contribution rather than not taking the tax at that point.

This is a pet 'thing' with me too, despite it certainly being of no practical significance to me now.

I can sympathise with the sentiment that when making a pension contribution HMRC are only letting you keep your own money when granting tax relief.

However it doesn't seem fair that a 20% taxpayer pays £800 to make a £1000 contribution while a 40% taxpayer only pays £600.

I can understand and agree with a maximum annual contribution limit of £40,000 given that contributions avoid tax. What seems unfair is the LTA. If you contribute to a pension for many years, are a gifted/lucky investor and manage to accrue a fund value in excess of £1,030,000 this tax year any money in excess of LTA is taxed heavily. I assume this is done to discourage people from making pension contributions in excess of £40,000 or their gross taxable income and therefore not benefiting from tax relief but instead treating their pension as an extension to their ISA when maxed out for that year.

I think it would be preferable to just limit contributions to those eligible for tax relief. The pension member takes the investment risk so should benefit from any gain.

This is all academic to me personally. Sadly breaching the LTA is one concern I do not have.

[Bouleversee]

Sorry to hear your husband has passed away Boulversee.
If your husband had any ISAs I do hope you have taken advantage of the relatively new facility of transferring them to you. If not you have 3 years to claim. Good luck sorting your tax position out.

Thank you. I was aware of that and have acquired some and applied for the spouse's allowance for others (which had been left to children). However, I really need to reduce my own estate rather than add to it so may not use them all.

[Bouleversee]

I've never had a personal pension so I am not sure how the tax relief works on that but it seems fair enough to me if basic rate taxpayers get 20% relief on contributions, higher rate taxpayers should get 40% relief. However, what seems grossly unfair to me is that IHT can be avoided by building up a pension fund out of untaxed income and leaving it to heirs rather than drawing it down, whereas those who have not had the opportunity to contribute to one but have instead built up ISAs from taxed income, i.e. without any relief on contributions or employer's contribution, will have the full residual value of their ISAs taxed at 40% , plus the new probate tax, if their estates are over £325. I don't see why any undrawn pension funds should not be taxed in the same way on death as ISAs and I have yet to hear any justification for the status quo in this respect.

[pochisoldi]

However it doesn't seem fair that a 20% taxpayer pays £800 to make a £1000 contribution while a 40% taxpayer only pays £600.

You seem to have overlooked the fact that both the 20% tax payer and the 40% tax payer both have to earn £1000 in the first place to put £1000 in their pension pot.

Now we've sorted that one out, lets move onto another myth: "Higher rate tax payers have more disposable income", and therefore have more opportunity to put money in a pension.

Once upon a time (as in back in the late 80s), I would have agreed with that, but "higher rate tax" is no longer the realm of the super rich. In any event tax avoidance via pensions at the top end of the 40% bracket is restricted by the (complicated) rules which reduce the annual allowance that you have to start thinking about when you hit £100k.

[Lootman]

Once upon a time (as in back in the late 80s), I would have agreed with that, but "higher rate tax" is no longer the realm of the super rich. In any event tax avoidance via pensions at the top end of the 40% bracket is restricted by the (complicated) rules which reduce the annual allowance that you have to start thinking about when you hit £100k.

And the rest of it. My youngest son is 29, already paying 40% tax, plus the (up to) 26% NICs if you include the employer contribution, and is repaying student loans at whatever rate that is.

So his marginal rate of tax is over 50%. I'm not convinced that it would have been any higher in the pre-Thatcher days, and there was no VAT back then if memory serves, nor even CGT if you go back to the 1960s.

IHT is another tax that used to affect only the super rich and now affects anyone who owns a house in the south of England.

[PinkDalek]

... a 20% taxpayer pays £800 to make a £1000 contribution while a 40% taxpayer only pays £600.

You seem to have overlooked the fact that both the 20% tax payer and the 40% tax payer both have to earn £1000 in the first place to put £1000 in their pension pot. ...

I have no relevant earnings but still manage to obtain basic and higher rate tax relief for my pension contributions.

[PinkDalek]

… I'm not convinced that it would have been any higher in the pre-Thatcher days, and there was no VAT back then if memory serves, ...

It would depend on how you define the pre-Thatcher days but VAT was introduced into the UK in 1973.

[Chrysalis]

PD how do you manage to get higher rate relief on pension contributions without earnings?
Curious!

[PinkDalek]

PD how do you manage to get higher rate relief on pension contributions without earnings?
Curious!

https://www.pensionsadvisoryservice.org ... tributions

If you don't have earnings

If you don’t have any earnings (for example, if you don’t work) or earn less than £3,600 each year, you can make gross contributions of up to £3,600 each year to a personal pension, self-invested personal pension, or stakeholder pension receiving basic rate income tax relief at, currently, 20% on your contribution. ...

In other words, I can contribute £2,880 net annually, with Income Tax relief available on the gross £3,600.

Often explored in further detail over at Pensions - Practical Problems viewforum.php?f=17

[Urbandreamer]

In other words, I can contribute £2,880 net annually, with Income Tax relief available on the gross £3,600.

That's 20%, the equivelent of the basic rate. I suspect that the confusion is that you claimed to also get the higher rate (ie 40% on some or all of your contribution).

BTW If, and I do mean IF, there is a desire to reduce the tax bill without giving money away, then ECT's and VCT's are an option. Even if you are a 20% tax payer, provided that you have paid enough tax, you can get 30% tax relief upon your investment. Not risk free of course.

Back in 2015, MoneyObserver did a tongue in cheek article upon how you could reduce your income tax bill to zero quite legaly. There were a few obvious issues, like you do actually need money to feed yourself so would have to live upon the personal allowance* and they were definatly letting the tax tail wag the dog.

*living on the personal allowance may or may not be difficult, but I would expect someone to have dificulties both investing large sums (£1mill or so) and living on the vastly reduced amount.

[Lootman]

Back in 2015, MoneyObserver did a tongue in cheek article upon how you could reduce your income tax bill to zero quite legaly. There were a few obvious issues, like you do actually need money to feed yourself so would have to live upon the personal allowance* and they were definatly letting the tax tail wag the dog.

*living on the personal allowance may or may not be difficult, but I would expect someone to have difficulties both investing large sums (£1mill or so) and living on the vastly reduced amount.

Actually it is quite easy even with 10 million. Invest in Berkshire Hathaway. It pays no dividend so you will not pay income tax on that.

Sell sufficient BRK shares each year to fully utilise the annual CGT allowance. Draw enough bank interest to utilise the personal and savings allowance.

The asset allocation between BRK and the savings account to be determined to optimise the above allowances. I make that 25K a year tax free, plus whatever you earn in an ISA. Right now my ISA gives me about 30K a year in tax-free income.

I can live well on 55K a year tax free.

[DrBunsenHoneydew]

In other words, I can contribute £2,880 net annually, with Income Tax relief available on the gross £3,600.

That's 20%, the equivelent of the basic rate. I suspect that the confusion is that you claimed to also get the higher rate (ie 40% on some or all of your contribution).

.

He said that the higher rate relief was claimed separately e.g. in Self-assessment tax return. You can do this if your total income before tax is £3600 or more above the threshold for higher rate tax, even if none of the income is “earned”.

[Urbandreamer]

He said that the higher rate relief was claimed separately e.g. in Self-assessment tax return. You can do this if your total income before tax is £3600 or more above the threshold for higher rate tax, even if none of the income is “earned”.

I'll have to consult my tax expert on that. Intitially she thought that you might be right. However more research is needed.

Oh the joys of a truely "progresive" tax system.

[PinkDalek]

He said that the higher rate relief was claimed separately e.g. in Self-assessment tax return. You can do this if your total income before tax is £3600 or more above the threshold for higher rate tax, even if none of the income is “earned”.

I'll have to consult my tax expert on that. Intitially she thought that you might be right. However more research is needed. ...

No research needed from this end, thanks, although as the good Dr. Indicates, I should have made it clearer that I was claiming Higher Rate Relief on the grossed-up £3,600 (in the same way I claim such relief for grossed up Gift-Aided payments).

See page TR 4 to claim:

https://assets.publishing.service.gov.u ... 18__1_.pdf

See page TRG 9 onwards for (limited) Guidance:

https://assets.publishing.service.gov.u ... s_2018.pdf

[XFool]

The media and talking heads don't make things any better. If you contribute to a pension, as I understand it, most people pay no tax on contributions. Hence a standard rate tax payer gets a uplift of the 20% tax they paid while the higher rate tax payer gets 40%. This is described as regresive! The bloody talking heads claim that the government is giving that contribution rather than not taking the tax at that point.

This is a pet 'thing' with me too, despite it certainly being of no practical significance to me now.

I can sympathise with the sentiment that when making a pension contribution HMRC are only letting you keep your own money when granting tax relief.

No, that's really not the way I see it.

Firstly, the HMRC are not "letting you keep your own money" (IMO). Rather, they are simply not charging you income tax on income that you haven't received. Quite right too! e.g. I'm currently not paying any income tax on Fred the Shred's income, due to my adopting the crafty tax dodge of not being Fred the Shred...

It's easiest to see this in the case of the old DB company pensions. You were 'paid' a gross salary, a certain x percentage of which was immediately diverted into the company pension scheme. THEN, normal deductions to the remaining gross pay were made, NI, Income Tax... and you were paid a nett monthly salary. You did not receive that x% of gross pay (the pension fund did) so you were not charged income tax on it. It wasn't your income despite it originally appearing on your salary slip, you didn't actually receive it...

However it doesn't seem fair that a 20% taxpayer pays £800 to make a £1000 contribution while a 40% taxpayer only pays £600.

No. Rather, the 20% tax payer was not charged 20% tax on £1000 they didn't actually receive as income. The 40% tax payer was not charged 40% tax on £1000 they didn't actually receive as income. It's the same thing, If you think about it. Much the same as if I don't pay 0.001% income tax on £1000 I don't actually receive as income, or my not paying 1000% income tax on £1000 I don't actually receive as income...

With personal pensions it's the same thing - just a different mechanism. You are still stuck on thinking of the refund of tax already paid as a 'gift' from the government. IMO this is one of the "subtle errors" in thinking about pensions I was talking about.

Of course I do realise that, because of the likely differentials of income tax rates for HR taxpayers between working and receiving the pension, pension saving is particularly useful for a HR taxpayer. But, as I said, if you think that is unfair then there is another solution...

I should point out that, when an employee and contributing to a pension myself, I was not a HR taxpayer.