We can all let our imaginations run wild… but one superpower that is within your grasp is the strength to optimise your tax relief allowance to supercharge your pension pot.

If you’re a business owner, self-employed, or an employee, are you making full use of the tax relief allowance on your pension? If not, you could be losing out on thousands of pounds towards your retirement.

No one wants to pay more tax than they have to – and with the end of the tax year upon us, we ask Conall Reilly, Pensions Director at Amber River NI in Belfast, for his advice.

“Pensions are a fantastic means of saving for retirement. We need to store away enough money somewhere, so we have enough to live on when we choose to stop working. There is no more tax-advantageous way of doing that than through a pension.

“Ultimately company profits are taxed, income is taxed, capital gains are taxed, dividends are taxed – but pension growth isn’t. With pensions, the taxman is giving you the opportunity to build up a nest egg of a million pounds to which he contributes, in some cases up to 60%.

“Because your pension accrues no tax as it grows, and it’s outside the net for inheritance tax, I always struggle to understand why someone wouldn’t be funding a pension.”

“At its simplest level, the current annual allowance is £40,000 per year. However, in the right circumstances, it is possible to exceed that. The taxman allows you to bring forward any unused allowances from the previous three years or, if you own a limited company, the company can make a contribution.”

“It’s a sweet spot from a tax relief perspective. It’s that earnings band, just over £100,000, where you start to lose your personal allowance on a two-for-one basis. So, at an elementary level, if a director earning £125,000 per year makes a £25,000 pension contribution, they will only receive 40% tax relief, but they will also get back their personal allowance in full, which equates to a 60% tax relief.”

“Unused tax allowance from previous years can be horrifically complicated. The advice I suggest is to fire the question to us, and we’ll do the calculations for you.

“Simply put, you should maximise this year’s annual allowance. Then you use up the earliest year of your three previous years, then the second year, and finally the most recent year. But it’s complicated by contributions that you may have made elsewhere or have previously carried forward, so it can be very tricky to work out.”

“Most family business directors take the first £12,500 of their remuneration as salary, up to the personal income tax allowance, and the remainder in the form of dividends to save on income tax.

“This is one of the strongest elements of having a limited company structure. That £40,000 doesn’t apply to the individual’s earnings if the company is making the contribution. You then move into the realms of the ‘wholly and exclusively’ test. Basically, this means that the contribution should be at a reasonable level for the individual concerned. The pension contribution becomes a justifiable business expense to the company, rather than testing against the director’s earnings.”

“Absolutely. The then-Chancellor George Osborne announced new pension freedoms in 2014. To quote him: “We choose to trust people with their own money.”

“This opened the doors to pension freedom. From the age of 55, you can access your pension in its entirety, as much or as little as you want. The other element introduced at the time, that often gets glossed over, is the freedom to pass your pension fund on to whoever you choose upon your death.

“Previously, you bought an annuity, and when you died your surviving spouse only got half of what was left. Now, you own the pension pot in its entirety, and you can choose to leave it to whoever you want – your children, your grandchildren, or a charity close to your heart.

“In my view, this was the greatest freedom – you’re getting a huge tax break to build this money up, you can access it in its entirety from the age of 55, and if you don’t use it, you can pass it on to whomever you choose with no inheritance tax.”

If you accumulate a pension pot in excess of a million pounds, it’s likely to breach the lifetime limit. Won’t you end up paying a punitive 55% tax charge?

“Understandably, no one wants to incur a higher tax rate than you’re paying on any income. But as is frequently the case with pensions, it’s a rather muddy and grey area.

“The lifetime allowance is something of a voluntary tax. You only pay it if you access your pension fund beyond the limit of £1,073,100. So, a bit like the unused allowance carrying forward exercise – it’s more complicated than the headline.

“If you have a pension fund of £1.2 million and you retire tomorrow, you’ve exceeded the lifetime limit by a hundred-odd thousand pounds, but you’ll only pay the tax on that if you seek to access the £100,000 excess pot. In a lot of cases, we tell clients to look upon the extra as a legacy fund for their children and grandchildren. If you never touch it, you’ll never have to pay the tax on it.

“Essentially the only tax they’ll incur is a 25% tax bill on the excess portion. By then, the £100,000 has hopefully grown to £200,000, and the tax bill will be £50,000. But that’s it; after that, there’s no Inheritance Tax (IHT). You effectively have a £150,000 legacy pot for whoever you choose to leave it to. You’ve built the money up, received significant tax relief along the way, enjoyed tax-free growth, and your relatives won’t have to pay 40% IHT on it.

“In a nutshell, we’ve got a pension that you can build up to one million pounds, a privileged asset with significant tax relief, and one you can pass on to whomever you choose in an IHT wrapper.”

This article has just touched on a number of ways you can make the most of your tax allowances. HM Revenue & Customs (HMRC) rules when it comes to tax are complex and can change at short notice, and you should consult a financial planner who will be able to advise on your individual position.

It’s also important to remember that the value of pensions and any other investments, and any income you take from them, can fall as well as rise, and you may get back less than you invested.