Limited companies can pay pension contributions for its directors and employees. This pension contribution is eligible for tax deduction (as an allowable business expense) against company’s profits as long as it satisfies the wholly and exclusively rule (i.e. it is contributed for employees and directors who performs day-to-day activities of the employer’s trade or profession) thereby reducing your overall corporation tax payable.
If you own your company as a director shareholder, then you have the sole responsibility of making this contribution for yourself. Beside the benefit of planning for your retirement, there is also a tax benefit for making such contribution through your company because it is possible to claim a tax relief against your company’s profit when the pension is actually paid (not accrued). In addition, there is no employer national insurance payable on pension contribution made through your limited company (unlike other benefits-in-kind such as cars, fuel and etc.).
If you pay yourself small salary and the remainder is dividend, the cap of 100% of earnings doesn’t apply to company contributions, so your company can contribute up to the full £40,000 regardless of your earnings. HMRC have gone on record saying that they will not deny relief where the director shareholder receives a small salary and the remainder of their remuneration is a mixture of dividends and pension contributions, and the pension contributions exceed the level of earnings (i.e. exceed the salary).
However, you need to check your company’s annual profit before making contribution (usually with previous year’s profit) because pension contribution must not exceed profit. Any excess contributions over the profit will no longer be tax efficient as it would be disallowed.
So think of how much you should have saved if you have make use of this opportunity. Let me demonstrate this with a case study of one of our clients.
Company A financial extracts:
Annual Salary £20,000
Final Dividend £10,000
Annual Profit reported £70,000
Corporation tax (19%) £13,300
Client as director of company A, make pension contribution of £30,000 via his company during the year. The effect of the pension contribution is as follows:
Annual reported (after pension contribution) £40,000
Corporation tax (19%) £7,600
The corporation tax savings for making pension contribution is £5,700. The client was able to get a tax relief of £30,000 and result in net pension contribution of £24,300 (£30,000 pension minus £5,700 corporation tax savings).
If you are interested, we partner with Claire Kelly at McCue Wealth Management, who you can easily set up your company pension plan to benefit from this tax relief and reduce your corporation tax bills.