Tax relief in auto enrolment

It’s not just you and your employees who are responsible for making payments into workplace pension schemes. The government does their bit too… in the form of tax relief.

Who gets tax relief?

Most people will receive tax relief from the government when they pay into a workplace pension - the only ones who might not are those who earn less than the personal allowance, so aren't paying tax anyway, depending on the way your scheme does tax relief.

Tax relief is one of the major benefits of saving into a pension, and one that's well worth communicating to your employees to help them to really engage with the scheme you offer them depending on the way your scheme does tax relief.

Two ways to apply tax relief to a pension

Tax relief can be applied to a pension in two different ways; the relief at source method and the net pay arrangement. Ultimately, the amount of tax relief that your employees receive will be the same, but the way tax relief is treated will affect what they see on their payslips.

Relief at source

Relief at source is always used for Group Personal Pensions (GPPs). This is the method of tax relief that is applied to an Aviva workplace pension.

How relief at source works

Under relief at source, employee pension contributions are taken from an employee’s pay after tax and national insurance have been deducted. The contribution that is deducted is net of basic rate tax relief – this means that 80% of an employee’s pension contribution is taken from an employee’s net salary. The 20% basic rate tax relief is added to their pension pot by your pension provider, who then claim it back from HMRC. This applies even if the employee earns less than the personal allowance. Higher or additional rate taxpayers will normally claim their extra tax relief through their self-assessment.

Example: Peter’s tax relief using the relief at source method.

Peter draws a gross salary of £2,500 per month. He contributes 10% of his salary to his workplace pension. Peter actually makes a net contribution of 8% (10% minus the 20% tax relief) of his gross salary (£200). Aviva then add the 20% basic rate tax relief (£50) and reclaim this amount from HMRC. Peter’s employer contributes 4% of his gross salary (£100). In total, Peter will benefit from a total pension contribution of £350.

Using the relief at source method

Gross salary per month	£2,500
Employee pension contributions	£200 (deducted from net salary)
Employer’s contribution at 4%	£100
Tax relief	£50 (claimed back from HMRC and added to pension pot)
Total contribution to pension pot	£350

Net pay arrangement

A net pay arrangement is usually used by occupational pension schemes and is used by Aviva Master Trust.

How a net pay arrangement works

A net pay arrangement is where pension contributions are taken from an employee’s gross salary before income tax is deducted. This means an employee receives their tax relief via PAYE at their highest marginal rate and doesn’t have to claim additional amounts from HMRC if they pay income tax at higher than basic rate.

This does also mean that employees who don’t pay income tax don’t benefit from the same government contribution as taxpayers. Contributions will cost non-taxpayers more in a net pay scheme than in a relief at source scheme.

Example: Liz’s tax benefits using the net pay arrangement

Liz draws a gross salary of £2,500 per month. She contributes 10% (£250) of her salary towards her workplace pension and receives an employer contribution of 4% (£100). Her employer deducts Liz’s pension contribution from her gross salary before deducting tax. In total, Liz will collect a monthly pension contribution of £350 including £50 tax relief.

Using the net pay arrangement

Gross salary per month	£2,500
Employee pension contributions	£250 (deducted from gross salary)
Employer’s contribution at 4%	£100
Tax relief	£50 (claimed before income tax is deducted)
Total contribution to pension pot	£350