Working families are losing out on £171 million per year because they don’t take advantage of a little-known connection between pension contributions and child benefit entitlements.
In families where one parent earns over £50,000, the family becomes subject to a “high income child benefit charge”. This works out as an effective tax on your income, calculated as a 1% charge based on the amount of child benefit you receive each year for every £100 you earn over £50,000 a year. For those earning over £60,000, this charge effectively cancels out any child benefit they were otherwise entitled to receive.
However, according to pension provider Royal London, HMRC measures earnings for this purpose on the basis of income after pension contributions.
This means those who exceed the £50,000 threshold will be paid more in child benefit if they increase their pension contributions.
With the vast majority of earners in this bracket paying higher rate income tax of 40%, receiving an effective government contribution of 40p per £1 through tax relief, the additional savings could be considerable.
The Institute for Fiscal Studies (IFS) estimates that 320,000 families have been affected by the high income child benefit charge since its introduction in 2013. Yet, saving an extra £3,000 per year would result in a 30% reduction in the charge, according to Royal London. For a family with two children this would effectively represent an annual saving of £536.
Child benefit makes a big difference
There is anecdotal evidence to suggest that higher earning working families are already switching on to these savings with many opting to up pension contributions to avoid going over the £50,000 threshold altogether.
One such person taking advantage is Robert Rushton a 34-year-old father of twins from Wales. He explains, “A few of my friends have done this: save more into their pension so they are not over the £50,000 tax bracket and so still receive their child benefit.
“We are still paying off the mortgage and credit card bills and doing up the house; when you are doing that, every penny counts. My wife’s salary only just covers childcare, so that monthly benefit makes a big difference to us and we don’t want to lose it.”
Prioritise pension saving
Steve Webb, director of policy at Royal London comments: “For a higher earning family, putting money into a pension is already a very attractive option. They benefit from higher rate tax relief on their contributions and may also get a matching contribution from their employer.
“But what they may not be aware of is the additional advantage of reducing the tax charge they face as a higher income family receiving child benefit. This is another reason for families in this income bracket to prioritise pension saving and to take advice about their options.”