Pension Contributions Tax Relief: how it works and how to calculate it

If you want to know how to use pension contribution to pay less tax, you have come to the right place. We have compartmentalized everything you need to know about tax relief for pension contributions and what you need to do.

In this guide, we explain how pension tax relief works, how much you can contribute in the 2025/26 tax year, and how different contribution methods affect your take-home pay.

What is pension tax relief?

The government rewards you for saving for your pension by adding a percentage to each contribution. 

The percentage that should have gone to the government as tax comes back to you as a bonus. The bonus (also known as pension contribution tax relief) is then added to your pension savings. 

How does tax relief on pension contributions work?

If you are a UK resident and under the age of 75, you usually receive tax relief at your highest marginal rate of income tax:

• Basic-rate taxpayers receive 20% tax relief
• Higher-rate taxpayers can claim up to 40%
• Additional-rate taxpayers can claim up to 45%

If you are a higher-rate taxpayer, you can claim the pension tax relief for high earners, which is 40%.

Example: If you contribute £200 to your pension as a basic-rate taxpayer, it effectively costs you £160. The remaining £40 is added by the government as tax relief.

For higher-rate and additional-rate taxpayers, achieving the same £200 pension savings will set you back only £120 and £90, respectively.

When does pension tax relief make the biggest difference?

Pension tax relief tends to be most valuable when contributions are aligned with your wider financial planning rather than made in isolation:

• if you are close to a higher tax band
• If you have variable income from year to year
• If you are approaching retirement and reviewing how much to contribute before accessing your pension.

In all of those situations, understanding how tax relief interacts with your income level and time horizon can help you make more informed decisions about when and how much to save.

Do pension contributions reduce your taxable income?

Pension contributions are free of income tax. However, pension contributions do not necessarily reduce your overall taxable income. This is because the higher you earn, the higher the rate of income tax you might be required to pay.

However, ‘a salary sacrifice arrangement’ is how to use pension contribution to pay less tax. 

A salary sacrifice arrangement is an agreement between you and your employer which involves your employer reducing your salary by a certain amount and remitting that amount to your pension savings.

By forfeiting some of your salary, you get paid a lesser amount. Consequently, this forfeit reduces what you’ll have to pay in income tax and national insurance, resulting in a higher take-home pay.

How much can I contribute to my pension in 2025/26?

For the 2025/26 tax year, the standard annual allowance is £60,000.

You can usually receive tax relief on pension contributions up to the lower of:

• 100% of your relevant UK earnings
• £60,000 per tax year

This limit includes your own contributions, employer contributions, and any tax relief added.

Moreover, there are some limits to consider to lump sums as lifetime allowance has been abolished as a tax charge framework:

• Lump Sum Allowance: £268,275, the maximum total tax-free cash you can usually take from pensions during your lifetime
• Lump Sum and Death Benefit Allowance: £1,073,100, the combined limit for certain lump sums and death benefits paid tax-free

Amounts above these limits are generally taxed at your marginal rate of income tax rather than subject to fixed lifetime allowance charges.

Some individuals may be subject to lower contribution limits than the standard annual allowance. This can apply if you have already accessed your pension flexibly, triggering the Money Purchase Annual Allowance, or if you have a high income and fall within the tapered annual allowance rules. 

These limits depend on personal circumstances and can significantly reduce the amount you can contribute with tax relief.

What about non-taxpayers and low earners?

Even if you do not pay income tax, you can still benefit from pension tax relief.

• Non-earners and low earners can contribute up to £3,600 gross per tax year
• This usually means paying £2,880, with £720 added as 20% tax relief

If your earnings are lower than £3,600, your tax-relieved contributions are generally capped at your earnings level.

What if I am not working?

If you’re currently out of employment, you can also contribute a maximum amount of £3,600 gross to get tax relief. Contributions above this amount do not attract additional tax relief.

Example: if you are not currently working, you could pay £2,880 into a personal pension during the tax year. Your pension provider would then claim £720 in tax relief from HMRC, bringing the total contribution to £3,600 gross. This allows non-earners to benefit from pension tax relief despite not paying income tax.

Relief at source and non-taxpayers

Non-taxpayers benefit from pension tax relief only when contributions are made under the relief at source system.

In this case, the pension provider claims the 20% tax relief from HMRC, even if you do not pay income tax. By contrast, non-taxpayers do not usually benefit from tax relief under net pay arrangements, as no tax is deducted from salary in the first place.

How to claim your pension tax relief?

Tax relief on pension contributions is claimed either through ‘relief at source’ or ‘net pay’, depending on whether you’re in a personal pension or in a workplace pension. Both methods provide how to use pension contributions to pay less tax.

Relief at source

This method is used for personal pensions and most SIPPs.

• You contribute 80% of the gross amount from your net pay
• Your pension provider claims the remaining 20% from HMRC and adds it to your pension
• Higher-rate and additional-rate taxpayers usually claim extra relief through self-assessment
  
  

Net pay arrangement

Common in workplace pensions.

• Contributions are deducted from your salary before tax
• You receive full tax relief immediately at your marginal rate
• No additional claim is required

Pensions and other tax-efficient options

Pensions are a powerful tool for long-term saving, largely due to tax relief and, in many cases, employer contributions. However, they are not the only option available.

Stocks and Shares ISAs offer tax-free growth and withdrawals, providing greater flexibility but without upfront tax relief. SIPPs can offer more control over investments within a pension, but require a higher level of involvement and risk awareness. 

In practice, many people use a combination of pensions and ISAs to balance tax efficiency, flexibility, and access to savings over time.

Key points to remember

• Pension tax relief increases your contributions at no extra cost
• The annual allowance is £60,000 for the 2025/26 tax year
• Tax relief usually applies up to 100% of your relevant earnings
• Non-earners can still benefit, up to £3,600 gross per year
• The lifetime allowance has been replaced by new lump sum limits
• Contribution methods affect how and when tax relief is applied

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