Can I use a contractor pension to reduce my IR35 liabilty?

Can I use a contractor pension to reduce my IR35 liabilty?

If you are one of those who have decided they are caught by IR35, you are no doubt aware that your options regarding taxes paid are fairly limited. 95% of your gross, less some allowable expenses, is the rule. However, there is a way to remove some (or even all) of your gross from the clutches of IR35.

Since A-Day in 2006, pension rules were considerably relaxed with many of the old restrictions being lifted. You can now invest up to £245,000 a year, up to a maximum of £1.75 million, in your pension fund: limits which are reviewed and increased annually, incidentally. So how does this help with IR35 taxation?

The point is that pension contributions from your company are taken out before the tax liability is calculated. In other words, the deemed salary at the heart or IR35 is lowered, hence you pay less taxes. Putting some earned money into a pension instead of drawing it as salary reduces your net income, but saves anything up to 48% of the tax due on that money. (The actual amount depends on your income. You can get your own figures from

Clearly you still need to take enough salary to pay the monthly bills, but pensions are not simply about putting money aside for retirement. After age 50, you can draw 25% of the cash in a pension fund tax free. The fund does not have to be put into an annuity until age 75, so can be invested elsewhere and you gain the interest (although, sadly, that income is taxable). If you die before 75, the fund can be paid out to your family and not be subject to inheritance tax. Pension funds are very heavily protected and they can’t go insolvent.

There are some recent changes that affect people earning over £150,000 a year. Between £150,000 and £185,000 a sliding scale of tax relief will be applied. Above £185,000 the rate is capped at 20% (as at 2009). There are also conditions about irregular payments and changes in pensions providers.

While basically a simple idea, professional advice is very necessary. Any such arrangements should be done with the help of a professional Financial Advisor.

© 2009 All rights reserved. Reproduction in whole or in part without permission is prohibited.

Image: Thinking RFID by Jacob Bøtter

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