We all now know that the UK government has become concerned that the work force is not putting enough money aside to cover their financial requirements for later life and retirement. Pension auto enrolment is now firmly underway. We are often asked if it applies to contractors, and if it doesn’t, should one simply ignore saving for a pension?
Our golden rule
The basic rule for contractors is that if you are the sole director of your limited company then your company will not have automatic pension enrolment duties. This is because you, the director, will not be classed as an employee as you are not working under a contract of employment. Sounds great, right?
However, just because the auto enrolment rules might not apply to you doesn’t mean you should ignore making pension contributions. These contributions represent one of the few last tax breaks available to contractors and they provide an opportunity to reduce your tax liabilities, whilst also saving for retirement.
Save on your tax, prepare for your future
Following significant changes recently introduced by the government, individuals now have the flexibility to decide how and when they draw their pension income. This ensures that their retirement strategy is suited to their personal circumstances and lifestyle.
Pensions now offer contractors increased flexibility when they retire, supplemented by the upfront tax benefits that they receive on their investments today.
Let’s take a look at some of the benefits.
Tax relief allowance
Every individual has an annual tax relief allowance, up to which pension contributions can be made in the tax year. This is currently set at the higher of £40,000, or 100% of total taxable earnings in the current tax year. Contractors can make employer contributions up to the £40,000 limit from their companies when their total income is £110,000 or less.
If your income is likely to be above £110,000 for the year, we would recommend speaking to a financial adviser as this will put you above the threshold income limit, which could affect your pension contribution. In addition, under current legislation, higher and additional rate tax payers benefit from full tax relief at 40% or 45%.
Carry forward rules
Individuals wishing to make large once-off contributions may be able to take advantage of “carry forward” rules, whereby the unused pension allowances from the previous three tax years can be utilised to make additional contributions (currently up to £120,000). Please note: This only applies if you have already contributed to a pension in the past.
Choose how you withdraw
Pension income can be drawn from the age of 55, as a lump sum or regular income, without restriction, but subject to the individual’s marginal rate of income tax.
Tax Free Cash
A Pension Commencement Lump Sum (PCLS), also known as Tax Free Cash, can be taken from any pension, usually up to a limit of 25% of each withdrawal. The remaining 75% can be taken as a regular income or lump sum and will be subject to income tax at the individual’s marginal rate.
Purchasing an annuity
The traditional option of purchasing an annuity is still available and 25% PCLS can be taken prior to setting this up.
What if you plan on leaving the UK?
Even if you are only in the UK for a few years, the benefits of saving for your retirement can be enjoyed from afar if you move overseas. In all cases it is good to talk to a financial adviser who will take the time to get to know you and aim to truly understand what makes you tick. A skilled adviser can talk you through the options available to you and ensure that any decisions you reach are suited to your individual situation.
Further reading: British expats to take on 25% tax on pension transfers
The options for retirement income are not just limited to pensions, but can include making use of alternative investments such as ISAs and buy-to-let property, which can be encompassed to provide a bespoke, tax-efficient retirement strategy.
For more information, email one of our accountants on firstname.lastname@example.org. They will also be able to introduce you to one of our financial advisers who will provide you with a free consultation.
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