Running your own limited company can be extremely rewarding if you’re clued up about how to make the most of the tax benefits available. A pension is one of the most tax efficient ways of investing your money as a company director. 

 

Want to know how? Read on. 

 

You (hopefully) already know that you are legally required to contribute a minimum of 5% (increasing to 8% in April) in auto-enrolment pension payments as the director of a limited company if you have at least one employee as since the introduction of auto-enrolment, all employers must pay into a pension for staff. 

Simply put, making pension contributions through your limited company will almost always be more tax efficient than contributing out of your own funds. 

Paying into a pension from your personal income enables you to receive tax relief based on the rate of income tax you pay. So for example, if you’re taxed at the basic rate of 20%, for every £80 you put into your pension, you will receive £20 tax relief. 

 

Even though there is currently no limit as to how much you can pay into a personal pension, the amount you can invest and still claim tax relief on is restricted to 100% of your earned income – up to £40,000 a year. It’s also worth noting that if you earn less than £3,600 a year, you can match this in pension contributions and receive 100% tax relief. 

 

As a director of a limited company, you most likely withdraw a low salary and top this up with dividends from the company profits. In terms of the pension contributions, tax relief will be limited to your salary, because HMRC does not consider dividends as relevant UK earnings. 

 

Basically, if you choose to pay yourself a lower salary than you take in dividends from the company, the tax relief limit will be a lot lower, and as soon as you go over the limit your tax bill will be comparably high. And this is why we usually recommend you pay pension contributions direct from your limited company, as employer contributions. 

Taking any excess, or non-required, income from your limited company per year and paying it into a pension is often very beneficial from a tax perspective. Pension contributions paid through the company are not subject to corporation tax or national insurance. 

 

As mentioned, you are permitted to pay as much as you like into your pension, and the contributions will be tax-free as long as they do not exceed the annual allowance (currently £40,000 per year). 

 

You should be mindful of the fact that you should not pay more than your company’s income for the year, otherwise HMRC could start investigating where this money has come from – it has to come directly from your company’s trading undertakings. 

 

As a side note, there is a way to pay a large lump sum over £40,000 into your pension pot by using the ‘carry forward’ rule, but this is only possible if you meet the following requirements: 

- you have been part of a registered pension scheme for at least three years; 

- you have not used the annual allowance in the previous three years; 

- you first must use your annual allowance from the current tax year. 

 

Bear in mind that there is a lifetime allowance (which currently stands at £1.03 million) which is the limit on the amount that can be withdrawn from your pension pot without incurring any extra tax charges. 

Employer pension contributions paid through a limited company are considered allowable business expenses. This means that the company will be granted relief on corporation tax, which, at present, is set at 19% (although it is set to drop after April 2020). This means that your company could save as much as 19% in tax on every £100 it pays into a pension pot – essentially, it could potentially only cost the company £81 to pay £100 into a pension scheme. 

 

Another great benefit of paying employer pension contributions through the limited company is that you don’t have to pay national insurance on them. However, bear in mind the fact that HMRC states that pension contributions must be ‘wholly and exclusively’ for the purpose of the trade for it to be deductible. This rule is quite vague, and the taxman can request evidence to check whether anybody else in the company is benefitting from the arrangement, e.g. a spouse or partner who is technically employed, but rarely visits the company premises and does little work. 

As with all accounting enquiries, there is no one-size-fits-all response, especially when it comes to being tax efficient. 

 

Get in touch with us today if you’d like expert advice on how to benefit from paying into a pension scheme through your limited company, or for any other pension or tax queries you may have.