Pensions

[Foliage]

When I pay into a pension my wages aren't affected to the same degree as the amount I pay into my pension, due to pension tax relief.

Is there a way of calculating the optimal contribution so that im earning as much as possible while contributing as much as possible? if that makes sense?

[Ozzie Osmond]

Broadly speaking, you can get 40% tax relief when paying into pension from gross earnings above £42,785

If your pension contributions pull your taxable income below £42,785 you will only get 20% tax relief below that level.

[ATG]

Foliage said:

When I pay into a pension my wages aren't affected to the same degree as the amount I pay into my pension, due to pension tax relief.

Is there a way of calculating the optimal contribution so that im earning as much as possible while contributing as much as possible? if that makes sense?

I understand what you mean, but, no, there is no way of optimising like that. Adding more to your pension means taking home less; neither individually has a local maximum. If you want to maximise your total earnings while ignoring when you'll be able to get your hands on it, you want to maximise the amount of money you are given by your employer and pay as little tax as possible. That basically means max out your pension contributions to the point where there is no further tax benefit. But that ignores the balance you're trying to strike between the money landing in your current account now and the amount landing in your pension pot. Cake now or cake later ...

[CountZero23]

You would need to either max out your allowance (£40,000) or put put in an amount which brought your salary down to your tax free allowance of £11,000 if earning more than £51,000.

That would be the most tax efficiant use of your salary however life may get a little dull.

[rotarymazda]

Foliage said:

When I pay into a pension my wages aren't affected to the same degree as the amount I pay into my pension, due to pension tax relief.

Is there a way of calculating the optimal contribution so that im earning as much as possible while contributing as much as possible? if that makes sense?

Work out your effective marginal tax rate.

This includes:

1. Income tax marginal rate
2. National insurance (employer and employee)
3. Benefit withdrawal (tax credits, child benefit etc.)

I include employer NI in the case where salary sacrifice is used and the employer gives you their NI savings (mine does).

e.g. Earn £50-60K PAYE with two kids

1. Income tax at 40%
2. Employee NI at 2%, employer at 12%
3. Rate of child benefit withdrawal at 17%

So in this particular case overall EMTR works out to be over 65%

Asuming EMTR = 65%.....

For every £35 net you give up, you get £100 in your fund.
Withdraw £25 at age 55 tax-free
So for every £10 net you gave up, you have £75 gross in your fund.
This provides you with a ~£2 annual pension income for life.
Not bad for each £10.


Depending on what you want your disposable income to be (and how much your Mrs and kids spend!), the tax rules mean anything in the 40% income tax band is very tempting to put into a pension if you will be a 20% marginal tax rate payer later as most will be (note: no NI to pay on pension payments).

I wonder how long these rules will last, still seems to good to be true.