Why pension savers could miss out on their share of £800m

A stealth tax grab by the Conservatives means millions more people are being caught by higher rates of tax. But there is a silver lining.

Soaring inflation and frozen tax thresholds will force 1.5 million taxpayers into paying higher rates of tax over the next five years, according to forecasts by HM Revenue & Customs. But paying a higher rate of tax allows savers to claim a bumper boost to their pension – and there is still time to do it.

Pension contributions are automatically given an uplift based on the saver’s income tax rate. But for personal pensions only the basic rate of 20pc is automatically added.

This means that higher-rate and ­additional-rate taxpayers must claim the remaining 20pc or 25pc relief themselves by completing a tax return. Nearly 3.5 million people have yet to complete their 2021-22 return, which must be filed by Jan 31.

Pension companies warn that huge numbers of ­higher-rate taxpayers are missing out on the relief due by failing to notify HMRC. As much as £811m in higher-rate tax relief could be unclaimed, investment firm Quilter estimated.

Jon Greer, of Quilter, says: “These figures illustrate quite how much money is being missed out on by ­higher-rate and ­additional-rate taxpayers. Although there is very little time left to file a self-­assessment form, doing so could put significant sums back in your pocket and ensure that you make full use of the benefits of the tax rules.”

A higher-rate taxpayer who contributed £2,000 to their pension could get back £500 from HMRC by including it on their tax return.

The bigger the contribution, the more substantial the saving. A ­higher-rate taxpayer who made a pension contribution of £10,000 in 2021‑22 would be able to get back £2,500 from the taxman, while an ­additional-rate taxpayer would get £3,125.

Andrew Tully, of the pension firm Canada Life, says this “hugely valuable” relief needs to be more widely publicised.
“Fifteen years ago higher rates of tax affected a much smaller number of people. But many millions more will enter the ­higher-rate tax bracket in future,” he says. “This issue is going to become much bigger.”

He adds that workers who earned between £50,000 and £100,000 were most at risk of missing out because once taxpayers earned more than £100,000 it was more likely that HMRC would write to them to remind them to fill in a tax return.

“People are generally reluctant to volunteer to do a tax return,” he says. “But the frozen allowances mean many more will have seen their income rise above £50,000 in recent years.”

Another reason savers are often caught out, he says, is that they have moved from an occupational pension to a personal pension.

Occupational pension schemes operate a “net pay” system by which ­higher-rate tax relief is automatically applied; personal pensions use a “relief at source” system.

“The fact the two systems work differently doesn’t help,” Tully says.

There are also some workplace pension schemes, called “group personal pensions”, which use the “relief at source” system, so the relief will need to be claimed via a tax return. Tully urges savers to check how their pension scheme applies tax relief to see if they need to make a claim.

Almost £12bn was paid into personal pensions in 2020‑21, according to HMRC, with the average individual contribution £1,700.

Income tax relief on individual contributions to “relief at source” schemes was £3.9bn. Thousands of savers may have missed out on the relief, but the good news is they can still make a claim for previous years. Taxpayers have four years to claim tax relief from HMRC, so some could backdate claims as far back as 2018‑19.

This could make for a huge tax saving. A ­higher-rate taxpayer who had paid £2,000 a year into their private pension for the past four years could claim back £2,000 on their tax return this year.

To make a claim for backdated tax relief, contact HMRC directly. Greer says the claim has to be made within four years of the end of the tax year being claimed for. HMRC will expect you to show evidence of your income for the relevant years, Tully says.

Once a claim for tax relief has been processed, HMRC will usually adjust the saver’s tax code in order to pay them; otherwise it may send a cheque.

Savers can contribute up to £40,000 a year into their pension. Any more than this and they will be hit by the annual allowance and will pay tax on the excess contributions. Whether a saver has exceeded the annual allowance does not affect their entitlement to tax relief.

Many of us will face higher tax bills in the coming years, which is why it is crucial taxpayers understand the benefits of pension tax relief and how to claim it, Greer says.

“Because income tax thresholds are frozen until 2027‑28, more people will find themselves becoming ­higher-rate taxpayers,” he adds.

“They may not feel much richer as inflation erodes their buying power and they will need to pay more tax. So ensuring that you are making the most of pension tax relief becomes even more important.”