Whether you’re saving toward a pension, due to retire soon, or well into retirement, you’ll be thinking about the size of your pot and the amount of income you can take. But be sure to think about the amount of tax you are paying too.
Understanding your thresholds and allowances – or having an adviser that understands them – can have a significant impact on the size of your tax liability, no matter what stage of life you are at.
1. The Personal Allowance
You can receive a certain level of income without having to pay income tax. This amount is your basic Personal Allowance and for the 2020/21 tax year, it stands at £12,500.
All your income – from employment, or your pension if you are retired – counts towards this allowance. Other investments you hold count too, as well as the State Pension once you become eligible.
You will likely exceed your allowance each year but it’s a good starting point for thinking about the tax you pay. You might be able to lessen the amount of tax due by staggering income over a tax year or delaying a payment or withdrawal until your allowance resets.
2. Pensions are tax-efficient
If you haven’t retired yet, be sure to make the most of your pension’s tax-efficiencies by topping it up if you can afford to. Depending on your level of earnings you might be able to contribute as much as £40,000 into your pension fund in a given tax year and receive tax relief.
When you reach your retirement, you’ll usually be able to take up to 25% of your Defined Contribution (DC) pension as tax-free cash. You can take this as a one-off lump sum or spread it out throughout retirement.
It’s important to think carefully about how and when you access your pension for the first time, and when you opt to take income from it.
We can help you put together a retirement plan that allows you to live your desired lifestyle throughout retirement, without risking running out of money, or leaving too much behind.
3. ISAs are tax-efficient too
If you’ve not yet retired, you might look to ISAs as a tax-efficient way to save. You can invest £20,000 into an ISA during the 2020/21 tax year and use the invested amount to supplement your income in retirement.
Any interest you earn in a Cash ISA is tax-free, and gains on investments in a Stocks and Shares ISA are free of both Income Tax and Capital Gains Tax (CGT).
4. Use gifting to lower the Inheritance Tax payable
Managing your estate can be complex. You’ll want to be free to live the lifestyle you choose in retirement while leaving enough to pass on to the next generation, without lumbering them with a large Inheritance Tax (IHT) bill.
- Exempted gifts
Gifts you make to your spouse during your lifetime are usually exempt.
You can also give small gifts (up to £250) throughout the tax year. These exempted gifts could include birthday or Christmas presents.
- Annual Exemption
The HMRC Annual Exemption allows you to gift up to £3,000 a year tax-free.
This exemption can be carried forward for one year and applies per individual. That means a couple can gift £6,000 a year, or £12,000 if neither of you used your Annual Exemption last year.
Making full use of this exemption could significantly lower your IHT liability over time.
- Normal expenditure out of income
If you want to make regular gifts, you can use the normal expenditure out of income exemption.
For this exemption to apply, you must be able to show that the gift you make is part of your normal expenditure, that it was made out of income, and that making the gift hasn’t prevented you from maintaining your normal standard of living.
Using gifting rules wisely can help you lower the value of your estate while passing on a living inheritance to loved ones, tax-free.
5. Consider donating to charity
Another way to lower the value of your estate for IHT purposes is to gift money to charity.
You can support a cause you care about while enjoying the tax benefits, and the peace of mind that you’ve lowered the IHT liability you leave behind.
You can leave a percentage of your estate, a set amount, or even particular items, as long as those items are specified in your will.
As well as benefiting a cause that means a lot to you, and lowering the taxable value of your estate, it can also reduce the rate of IHT payable. Donate more than 10% of your estate’s net value to a charity and you could see the rate of IHT payable reduce from 40% to 36%.
Get in touch
If you’d like help managing the tax you pay, get in touch. Please email firstname.lastname@example.org or call 0115 933 8433.
The Financial Conduct Authority does not regulate estate planning, tax planning or will writing. Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor.