Tax advantages of personal Vs company contribution to pension

[MrC]

Thanks for your thoughts wordisbond

I'm a fan of "trust but
verify" on accountant's advice.

Yes, this is the journey I've been down but figured by the time the effort is expended to verify, it would only be marginally more effort to work it out up front myself. I'm currently trialling this approach.

You obviously have the financial resources to make the personal pension payment now, but those resources will eventually have to be replaced for you to have living expenses.

I'm not convinced about needing to replace cash in pocket actually in the near term. Until my paltry pension pot is on track for a decent pension i might as well take money from my present self to pay my future self if it's more tax effective. Even if i carry greater debts into retirement eg mortgages, a higher pension will help me to clear them

So let's assume that this personal pension contribution is going to cost you taxable income (even if that's deferred). Even if you stay within basic rate band, taxable salary will cost you income tax and employee NI, and will cost your company employer NI. That's a lot of money.

Per my original post I'm only considering the amount equivalent to my low salary which is incurred anyway so tax and ni are irrelevant as are divs of I lower my present day income.

When the dividend tax came in, it meant that in almost every case the contributions were best made by the company.

This was what i was thinking. Downward CT in coming years may reverse some of this.


The other analysis I'm doing is comparing company pension contribution Vs doing a LISA. My conclusion is that the LISA wins in tax efficiency provided it's funded by LR divs and i don't seek to replenish the lost money in pocket.

[WordIsBond]

I'm a fan of "trust but verify" on accountant's advice. So far, verification has increased my trust of my accountant and I don't feel a need to verify everything, but I'm a fan of what OP is doing here. He fired an accountant. This is a good test case to run by the next accountant and find out if he knows his backside from the moon, so it makes sense for OP to educate himself.

On to the question.

Let's step back briefly and look at the larger financial picture. You obviously have the financial resources to make the personal pension payment now, but those resources will eventually have to be replaced for you to have living expenses. Money doesn't grow on trees and all that. So any money you put into a personal pension now has to be replaced eventually with funds from your company. And unless you live on less than £14K a year, it's going to be replaced with either taxable salary or taxable dividends. Maybe you have free assets that can defer that taxable income until next year, or five years from now, but it's coming. (If it isn't, and you have enough to live out the rest of your life without any more income, stop asking questions and start giving advice ).

So let's assume that this personal pension contribution is going to cost you taxable income (even if that's deferred). Even if you stay within basic rate band, taxable salary will cost you income tax and employee NI, and will cost your company employer NI. That's a lot of money.

Taxable dividend is less painful than taxable salary. It will cost you 20% corporation tax, plus dividend tax on the 80% that is left, so net 26%. Much better -- but still less than the 20% top-up Her Majesty's Government will give your pension fund for your contribution.

Employer contribution to your pension means there is no top-up but also no tax at all on the funds.

When the dividend tax came in, it meant that in almost every case the contributions were best made by the company. It may appear to be a wash in the current year, but you can't just look at the current year -- those personal funds have to be replaced, and there will be tax ramifications when they are.

There is one exception I can think of. That is if you can't save corporation tax on the company contribution. The only way that I think this happens is if you have no contracting income currently to set it off against, and you can't carry it back far enough to offset prior profit / corporation tax. This could happen if you have a big warchest from prior years and have funds sitting in a company but have stopped contracting. In that case, if the corporation tax has already been paid, and you can't recover it, then you simply take dividends, pay the 7.5% dividend tax, slap it into your pension, and get it topped up by 20%.

Disclaimer: I am not an accountant, which means I might be missing something. But this has an advantage, too. Accountants look at the current year's numbers, crunch them accurately, and perhaps say, "Makes no difference, either way." Since I'm not an accountant, I have a life (with apologies to our friendly accountants here , but maybe Patrick has a life?), and say, "Hey, you're going to have to replace that money before retirement, probably." Since the dividend tax was introduced, that almost always means you are going to be worse off if you do a personal pension contribution, rather than a company one.

[MrC]

The difference between these two methods then is the lack of impact on your personal tax when the company makes a contribution.

Based on the above illustration it would make sense to have the company contribute on your behalf.

Thanks for your response Patrick. Yes, that brings clarity. Thank you. The point I'd missed is where the funding for the personal contribution comes from and the associated tax cost. I suppose my thinking is valid if I'd put the salary income into the pension and not taken more divs to compensate. IE live with lower take home pay.

Seems inherently challenging trying to weigh up tax costs against actual take home. IE if you let the tax tail wag the dog your head may spin!


EinsteinTax- thanks, yes the mortgage consideration against company profit had already occurred to me but unfortunately not before last company year end so I'll possibly come up against the "declining profits" obstacle.

Didn't know about the personal contribution counting for mortgage income purposes though is that one lender or across the board?

[MrC]

[QUOTE=northernladuk;2388147]Get another one then. Surely the cost of not making the right choices due to running your business on an online forum far outweighs the cost of an accountant that also supplies a great tool to help you?

Seems a good little post that but plenty of reading material out there that would help as well surely?

I like to understand circumstances myself and make my own decisions. I've had my fill of mediocre accountants who don't seem to know their arse from their elbow.
I'm quite happy to garner different thoughts and opinions and make up my own mind about which is right.

Read your links. Thanks for those. First one has out of date information IE 50k annual limit, only 5k director's loan without ramifications...
Second link more relevant but fails to mention option of putting the hr divi into pension (up to salary level) and will soon be out of date with the div tax rates.

[EinsteinTax]

One other point to consider is the impact of company vs personal pension contributions when it comes to mortgage applications.

I recently had a client who made a large company pension contribution in the accounting period before applying for a mortgage. The lender used the Ltd net profit (after pension contribution) for the income multiples and refused to treat the pension as a form of director remuneration. Not only did the lender discount the income for that year, but as the net profit was lower than the previous year (due to the pension contribution) they refused to use the average net profits over the last 2 years for income multiples.

The lender accepted that if the pension contribution had been made personally it wouldn't have affected income multiples, but "the rules are the rules". Whilst the lender sympathised with the apparent unfairness of the situation there was nothing they could do to change the policy.

[Patrick@Intouch]

Hello,

In terms of personal contributions v company contributions.

If you contribute £8,000 personally the pension provider will gross this up so you get £10,000 added to your pension pot.

If this is to be funded by way of you taking additional dividends then it may push you into higher rate tax. However, you basic rate threshold will be extended by the gross amount of contribution meaning that you would pay tax at 7.5% on this additional income. The resulting increase to your tax would be £600.

If the company makes a contribution of £10,000, it saves £2,000 in corporation tax so the actual cost to the company is the same as the cost to you and your pension pot will be increased by the same margin.

The difference between these two methods then is the lack of impact on your personal tax when the company makes a contribution.

Based on the above illustration it would make sense to have the company contribute on your behalf.

[northernladuk]

NL- FYI I've sacked my accountant so can't ask them!

Get another one then. Surely the cost of not making the right choices due to running your business on an online forum far outweighs the cost of an accountant that also supplies a great tool to help you?

Seems a good little post that but plenty of reading material out there that would help as well surely?

http://www.contractoruk.com/money/wh...s_options.html

Am sure a friendly accountant will be along soon to answer your specific question though....

[MrC]

Hi. Apologies for long post.

So this was pretty well covered here though governments will meedle so times have changed. Notably taxes on divs.

Having made a company contribution to my sipp what I'm trying to work out is whether to make a personal contribution to same up to the amount of my net lowish salary.

As i understand it co contribution saves 20% CT.
However the very nice gov will give me back 20% of salary against personal irrespective of the actual tax paid. Seems about equal so far. But yes salary incurs 2 helpings of NI. But these are already incurred as this salary is being taken anyway. So again equal.

Although the salary will depress the profit and hence the CT again it is already incurred.

So as far as i can conclude in terms of tax saving both are equivalent. However where they differ is that one takes money out of my pocket (forcing me into hr to preserve income) whereas the other takes from company funds.

Therefore on balance for me I'd rather have a bit more in my pocket so i wouldn't pay into my pension personally.

Does anyone (dis)agree?

The may be some flaws in my thinking!!

Certainly it's a different conclusion to the thread i posted above where they concluded div>personal trumped company contribution.

NL- FYI I've sacked my accountant so can't ask them!