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Financial Times Readers' Questions

03/03/2007

Financial Times

Sharlene Goff

I understand that, subject to certain restrictions, it is possible, in any given tax year, to put the equivalent of one's entire earnings into a personal pension plan and get full income tax relief. Where does this leave any investment into a venture capital trust at launch? Investment into VCTs also attracts tax relief, but is subject to the tax actually having been paid in the relevant year. Can a tax rebate be claimed on a VCT investment even if all of one's gross earnings have been invested into a pension, and therefore, technically, no income tax has been paid in that year?

Jason Butler, investment adviser at Bloomsbury Financial Planning says yes, you can make a contribution into a VCT even if you have put 100 per cent of your salary into a pension, but by doing so you could reduce the rate of tax relief on your pension.

As you say, basic rate tax relief is given at source directly into the pension plan by allowing the contribution to be paid net of basic rate tax - that is you pay 78 per cent of the contribution and it is topped up to 100 per cent by a tax credit for the difference from HMRC directly into the plan. Higher rate tax relief can be reclaimed in your tax return.

Butler says the relevant issue here is how HMRC treats VCT tax relief. He says that regardless of the order in which you make contributions to a VCT and a pension, HMRC will offer 30 per cent tax relief on the VCT investment (maximum VCT investment is £200,000 per tax year), as long as this tax has been paid by you. This will not affect the basic rate tax relief given at source on the pension contribution. However you cannot claim higher rate relief on contributions into a pension for the earnings that you have used for the VCT investment.

So, for example, say you earn £100,000 and your income tax liability is £30,000. If you make a £100,000 investment into a VCT you would receive tax relief of £30,000. If you then contributed £100,000 into a pension, this would still qualify for 22 per cent income tax relief at source, but you could not claim back any higher rate relief on the pension contribution.

Butler says in this case your total tax relief from the VCT and pension contribution would equate to around 26 per cent.

Butler says that this planning looks attractive if: 1) you want exposure to a relatively high-risk asset class such as a VCT; 2) you accept that the overall tax relief from the pension and VCT will provide a lower effective rate of tax compared with a sole pension contribution; and 3) you do not pay income tax at a higher rate on the eventual income arising from the pension than you obtained in tax relief on the contribution as a result of doing the VCT as well.