Over the last few months, especially with the looming IR35 Legislation change, we have received more and more enquiries about the option of going via an umbrella based on an “inside IR35” verdict, so I thought it may be worthwhile to take a look at one consideration for contractors working via a brolly post April; the pension.
At this point in time pensions are about the only tax saving opportunity if you are working via a brolly, although I must stress that in order to gain the tax benefits I am about to describe, the pension contributions must be made into the Umbrella Group Pension Scheme. Payments via salary sacrifice cannot be made into a personal pension, and so would lose the additional relief from National Insurance Contributions.
So let me explain…
A contractor on a daily rate of £500 equates to a gross figure, based on a calendar month, of £10,833.33.
If a contractor wishes to sacrifice as much of their salary as possible into the company group pension scheme, they can do so subject to the umbrella ensuring a minimum wage payment is received for the pay period in question, they must also ensure that the total amount contributed into the pension scheme does not go above the annual allowance, currently £40,000 per annum. It is important to note that more than this can be contributed; it’s just that the contractor wouldn’t receive any further tax relief on contributions over £40,000 per annum.
It’s also worth noting that for very high earners, for every £2 of income above £150,000 per annum, £1 of the annual allowance will be lost. The maximum reduction will be £30,000 meaning that anyone earning over £210,000 will have their annual allowance capped at £10,000. In this scenario, our £500 per day contractor will earn just shy of £130,000 per annum.
So focusing on our £500 per day contractor, based on a normal tax code of 1100L the take home pay will be £6,076.66 per month (56% take home). As their earnings are above £43,000 per annum, some of the earnings will be subject to the 40% tax rate.
If the contractor decides to salary sacrifice the maximum pension amount allowed towards their pension, they would be able to make contributions of £9,450 per month for the first 4 months, it would then reduce for the fifth month as they approach the annual allowance.
In those first 4 months, take home pay would be £1,011.16 (9% take home), gross for tax earnings would only be £1,098.72, the 1100L tax code would reduce their tax liability to virtually nothing (in this case, £36.20 per month – 0.3% of his take home) falling within the 20% tax rate band.
So if you are thinking about using an umbrella and considering making payments into a pension, then it may be worth taking a moment to consider what you need to net in your monthly pay packet and what impact the pension contribution will have.