Pension tax advantages

Using tax to your advantage

Pensions offer a mix of tax benefits that together can help boost your final retirement pot – so it can pay to make the most of them. 

Below is a summary of the key tax advantages your workplace pension can offer.

1. Tax relief on your pension contributions

To encourage us to contribute more into our pensions, the Government gives tax relief on what you put in – up to a certain limit

This tax relief is received in different ways:

If your pension contributions are coming out of your salary before tax, they won’t be counted as part of your taxable salary so you won’t pay any tax on them.

So, effectively, you get tax relief at your highest marginal rate of income tax.

If your pension contributions are paid out of your after-tax salary, your pension scheme will automatically add basic-rate tax relief when you make a contribution. If you pay higher or additional-rate income tax, you can reclaim further tax relief through your annual self-assessment tax return.

This means a £100 pension contribution will effectively cost £80 if you pay basic-rate income tax, £60 if you pay higher-rate tax and £55 if you pay the top rate of income tax. If you’re a non-taxpayer you can still get basic-rate tax relief on contributions up to £2,880 (£3,600 including tax relief).

Because this tax relief is generous – there are limits on how much you can contribute to a pension. See more about the maximum allowances(Opens new window).

2. Tax-efficient growth on your investments

Once contributions to your pension scheme are invested, they grow largely free of taxes. 

The favourable tax treatment of pension funds means that they should grow faster than equivalent taxable investment funds. Like other investments, however, dividends on shares are paid to your pension scheme with a 10% tax credit deducted which can’t be reclaimed.

3. Tax-free 25% lump sum from age 55 

When you’re eligible to start taking money out of your pension – usually from age 55 – up to 25% of its final value can be taken out as tax free lump sum. The normal minimum pension age is expected to increase from 55 to 57 from 6 April 2028. See Tax on your pension benefits for more details.

4. Potentially no inheritance tax on death

With defined contribution pensions, depending on when you die your pension can be passed on to your beneficiaries without being included in your estate for inheritance tax purposes. See the Government website(Opens new window) for more information.

The key age is 75. If you die before your 75th birthday, then any pension can be passed on tax-free. Your beneficiaries can spend it when they want without incurring a tax bill — as long as they take it within two years. They don't have to be over the normal minimum pension age - this is currently age 55 but is expected to rise to 57 in April 2028.

But, after your 75th birthday, there can be tax implications, although the eventual bill may still be lower than it would be on money outside of a pension.

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