Turn losses into a pension advantage

News that those earning in excess of £150,000 a year will soon face a tax rate of 42.5% on dividend income highlights the beneficial tax treatment of pensions. It also reminds us that there are times to crystallise investment losses.

Piling money into a pension scheme is not so easy now, for very high earners

Anti-forestalling regulations put in place to prevent ‘very high earners’ from piling in massive amounts of money in advance of the introduction next April of a 50% tax rate on their earnings – and the 20% limit to tax relief they can receive on pension contributions – means that they are limited in how much they can invest in this way.

For those with incomes below £150,000, however, the contribution limit for this year is their entire earnings (while an employer can top this up to the annual allowance of £245,000 this year and £255,000 next).

How does this help?
Many self invested personal pensions (SIPPs) will accept what are called in specie contributions. These are contributions made not in cash, but in the form of shares (or some other property) already owned by the investor.

Of course, once investments are held within a SIPP, there is no UK income tax (other than the unavoidable 10% tax withheld on dividends from UK companies). Similarly, there is no capital gains tax. So by moving shares up to the permissible limit into your SIPP, you can protect these against future tax.

What is more, if you earn £80,000 and make an in specie contribution of shares worth £40,000 into your SIPP, the taxman will round this up to £50,000 as contributions are net of 20% basic rate tax relief. What is more, as a higher rate taxpayer, you will also be entitled to a further 20% in additional tax relief. So your tax bill will be slashed by a further £10,000 for the year.

Protecting your money against tax

Will I have to pay capital gains tax on the “transfer”?
If the value of the assets you move into your SIPP is higher than the amount you paid for them, then they are potentially liable to capital gains tax at the new rate of 18%. However, because there is an annual allowance on realised gains of £10,100 before the tax cuts in, your investments would have to have performed quite well for this to make a significant difference on the figures discussed.

What if my investments are showing a loss?
On the other hand, many investments purchased within the last four or five years could well be showing a loss at the moment. By carefully balancing the investments moved into the SIPP, it would be possible to offset these losses against any gains and therefore have no CGT to pay at all.

The point is that any future gains are fully protected against the tax.

The importance of advice
Of course, the rules relating to pensions mean that you can subsequently only get back 25% of the total fund as tax free cash – the balance of the fund must be used to provide some form of retirement income, which will itself be subject to tax. But by then you may be in a lower tax bracket altogether so the impact will be less severe.

This reinforces how important it is always to seek independent financial advice before making any decision regarding your finances. For further information, please contact your usual independent financial adviser. The value of investments is not guaranteed; you may get back less than you put in.

NOTHING CONTAINED IN THE ARTICLE SHOULD BE CONSIDERED AS GIVING INDIVIDUAL FINANCIAL ADVICE. PLEASE NOTE THAT THERE MAY BE VARIATIONS FOR THOSE LIVING IN SCOTLAND AND NORTHERN IRELAND. 

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