By WatkinsonBlack
Many taxpayers assume that when they pay into a pension, the tax system automatically gives them all the relief they are entitled to. Unfortunately, that is not always the case. Every year, higher and additional rate taxpayers overpay tax simply because they never claim the extra pension relief available to them.
For most employees, pension contributions are paid from income that has already been taxed. The pension provider then adds basic rate tax relief at 20% automatically. While this works perfectly for basic rate taxpayers, it only gives part of the benefit to anyone paying tax at 40% or 45%. The remaining relief does not appear unless the taxpayer actively claims it. If no claim is made, HMRC keeps the difference.
The confusion mainly comes from the different ways pension schemes apply tax relief. Many personal pensions and workplace schemes operate under what is called a relief at source method. Under this arrangement, the individual pays a net contribution and the provider claims 20% from HMRC to top it up. However, that is where the process stops. Higher rate relief is not automatically added, even though the taxpayer is entitled to it.
By contrast, some schemes operate through payroll using a net pay arrangement or salary sacrifice. In these cases contributions are deducted before tax is calculated, meaning full relief is given automatically. The difficulty is that people rarely know which system their pension uses, and many assume all schemes work the same way.
The financial difference can be substantial. A higher rate taxpayer contributing £10,000 into a relief at source pension would personally pay £8,000 and the provider would add £2,000 basic rate relief. However, a further £2,000 of higher rate relief is still due. If it is not claimed, that money simply remains with HMRC instead of being refunded or reducing the tax bill. Over several years, especially for business owners or senior employees making regular contributions, this can amount to many thousands of pounds.
Different routes to relief
Another common misunderstanding is that a full tax return must be completed to recover the relief. In reality there are two routes available. Individuals who already complete a return can include the pension contributions within it and HMRC will adjust the calculation accordingly. Those who do not normally file a return can instead submit a standalone claim through HMRC’s online service, which is often quicker and avoids additional administrative obligations.
To make a claim, HMRC requires basic supporting information such as the taxpayer’s National Insurance number, the pension provider details and the total contributions made in each tax year. Evidence is also needed in the form of a pension statement, letter from the provider or payslip showing the contribution and confirmation that basic rate relief has been applied. Once processed, HMRC usually either repays the tax or adjusts the tax code so less tax is paid in the future.
This issue is becoming increasingly important as pension taxation grows more complex and responsibility shifts towards individuals ensuring the correct relief is received. Future changes are expected to limit how much relief is automatically applied within certain contribution arrangements, meaning more taxpayers will need to actively reclaim the difference rather than relying on payroll adjustments.
For anyone earning above the basic rate threshold and contributing to a pension that is not salary sacrifice, a quick review is worthwhile. It is also possible to claim relief for previous tax years, meaning refunds are often available even if the oversight has been ongoing for some time.
Pensions remain one of the most tax efficient savings vehicles available, but only when the relief is fully obtained. In many cases the system provides 20% automatically and leaves the rest unclaimed unless action is taken. A simple check can therefore produce a valuable repayment while improving long term retirement savings at the same time.
In short, do not assume the tax system has already done the work for you. Making sure the relief has been claimed properly can make a meaningful difference to both current tax bills and future retirement income.
WatkinsonBlack have considerable experience in all areas of taxation and business services. This includes providing a very cost-effective payroll bureau service, as well as assisting to ensure compliance with the latest Making Tax Digital legislation. If you are employed or self-employed either as a sole trader, partnership or limited company and want to arrange a no-obligation initial meeting on any taxation or accounting matter then please contact us by telephone on 01925 413210 or by e-mail to info@watkinsonblack.com. Please note that these ideas are intended to inform rather than advise and you should always obtain professional advice before taking any action.
