Tax-savvy SME owners should snap up pensions — here’s why

A pension is still a terrific tax-efficient option for small business owners who want to save for retirement, extract profit from their business and benefit from tax relief.

But a series of rule changes since 2006 and misleading media headlines have mischaracterised pensions as mediocre.

Read on for several reasons why pensions are still ‘worth it’ and why you should move fast to maximise their potential.

Tax-efficiency

Relevant pension types for business owners are personal pensions, self-invested personal pensions (SIPP) or small self-administered schemes (SSAS).

The same tax-efficient components apply to each, but in simple terms:

• Pension contributions don’t incur corporation tax or NI when they’re made from the business and are treated as a business expense if made on behalf of employees, reducing your Corporation Tax bill so that it effectively translates to potential tax relief at a rate of 19 per cent.
• Pension freedoms mean you can withdraw benefits from money purchase pensions in many ways that suit your requirements — 25 per cent is tax free, with the remainder taxed at marginal rates with no NI. The minimum age for taking pension benefits remains age 55.
• If you’re a UK taxpayer, in 2018-19 in most cases you’ll get tax relief  of up to 45% on your own pension contributions of up to 100 per cent of your earnings (or £3,600 per annum if less). Even non taxpayers receive at least 20% tax relief and non-earners can contribute up to £3,600 each year with 20% tax relief. If the £40,000 annual allowance is exceeded a tax charge will apply on the excess (some people may have a lower annual allowance – higher earners with threshold income over £110,000 and adjusted income over £150,000 or anyone who has flexibly accessed a money purchase pension pot).

What’s more:

• Money in pensions is outside your estate and is therefore normally exempt from inheritance tax when you die.
• If you pass away before age 75, your funds can be paid to beneficiaries tax-free (as long as they don’t exceed the lifetime allowance, currently £1,030,000) — and if you die after this age, funds will be taxed at their marginal rate.
• Owning a commercial property in a SSAS or SIPP and renting it back to the company can be advantageous to business owners — no tax is incurred on rental income received, the company can offset the rent it pays against tax and if the premises are sold profitably, no capital gains tax is payable.

Big picture

These favourable factors make paying into a pension seem like a no-brainer — but the direction of regulatory changes mean delaying is detrimental:

• Changes to pension regulations has reduced the limit on what most individuals can pay into a pension from £215,000 to £40,000 from 2006 until today. The current limit is also reduced even further for anyone with an annual income of over £150,000.
• In the same period, the lifetime allowance for pensions rose from £1.5 million in 2006 to £1.8 million in 2011/12 — but has been reduced since then to a low of £1,000,000 although it rose slighlty to £1,030,000 from April 2018.

Act now

Apart from their primary function of making retirement much more comfortable, pensions are still ususally the best way to extract profits from your business.

But with conditions becoming less favourable over the years, our best advice for SME owners is to strike now, while there’s still a clear advantage.

Another reason to act now is that an unnamed senior government source recently told the Mail on Sunday that the Chancellor Phillip Hammond is also eyeing the £38 billion paid out every year in the form of pension tax relief as ‘one of the last remaining pots of gold we can raid’.

Sun Tzu said ‘opportunities multiply as they are seized’ — when it comes to pensions, we concur.

To discuss bespoke financial solutions for you and your business, contact our team today.