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Pension contributions can reduce child benefit tax charge, says IFA

High-earning parents should consider making pension contributions to avoid the government’s new tax on child benefit, an independent financial adviser has suggested.

7 November 2012

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From 7 January 2013, the government will reduce the amount of child benefit paid to those that earn more than £50,000, in a move that is estimated to affect about one million families.

Child benefit is currently £20.30 a week for the first child and £13.40 a week for each additional child, meaning that a family with two children would be receiving £1,752 a year and a family with four children would get £3,146 a year.

However, under the new rules, households where at least one person earns more than £50,000 will have the benefit reduced on a sliding scale, with those earning over £60,000 losing the benefit entirely.

The change has been criticised for producing anomalies, for example, two-earner households where both parents earn £49,000 will keep all of their child benefit.

Scott Gallacher, director of Leicester based independent financial advisers Rowley Turton, says that he is already receiving enquiries from concerned parents.

“In one instance, the husband was earning just over the £50,000 threshold, with a salary of £51,000, whereas his wife was working part time as they had two young children.

“In this particular case, the child benefit tax charge works out as £43 for this tax year (as the tax charge only applies for three months), but £175 for the next tax year, assuming the husband income remains unchanged,” said Gallacher.

Making pension contributions could avoid this charge, Gallacher advised.

“By paying in £67 net per month (£800 a year) into a pension, he ends up with £1,000 a year of gross contributions. This is because individual pension contributions qualify for 20 per cent income tax relief at source,” he explained.

“In addition, the husband would qualify for 20 per cent higher rate income tax relief, i.e. a tax saving of £200 per annum, by way of an adjustment to his tax code. This reduces the real cost from £800 to £600 a year, i.e. £50 per month.

“The pension contributions have the effect of reducing the husband’s salary for the purposes of the child benefit tax charge, i.e. saving him an extra £175 in tax. This reduces the final cost to £425 a year, i.e. £35 a month.

“In summary, the husband would end up with a £1,000 a year of gross pension contribution for a cost of just £425,” said Gallacher.

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Tax & Wealth structuring Pensions