Tax on Pension [ 中文 ]

TAX ON PENSION

 

Main categories of pension:

• State pension, 
• Private pension
• Workplace pension.

An individual can have a state pension, a private pension, a workplace pension, or any combination of them. 

 

Workplace pensions can also be divided into two types: -

• A defined benefit plan - a DB plan specifies exactly how much retirement income employees will get once they retire;
• A defined contribution plan - a DC plan only specifies what each party – the employer and employee – contributes to an employee's retirement account. 

The basic difference is what each plan promises its participants

 

How do private pensions work?

Private pensions, or personal pensions, work similarly to a defined contribution workplace pension. This means that you’ll get out what you put in, plus tax relief and any investment gains. One of the key differences between workplace pensions and personal pensions is tax relief. With a workplace pension, your contribution is taken before tax which can reduce the overall tax you pay on your salary. However, with a personal pension, your contributions typically happen after tax. See more at the bottom of this page.

 

Country rules - Canada, the United Kingdom

 

Tax relating to pension in the U.K. normally include the following: -

1. Contribution to the pension,

2. Income earned from the assets in the pension,

3. Distribution received from the pension.

Broadly speaking:

• income that is paid into a private pension is exempt from income tax;

• income earned from investments within the pension fund is also exempt (and capital gains are exempt from capital gains tax);

• money received from the pension is taxed.

This is often referred to as "exempt-exempt-taxed" or "EET" treatment. 

 

Comparison - UK and Canada

 

Private pensions

In the United Kingdom	In Canada	In the USA
ISA Individual Savings Account	TFSA Tax Free Savings Account	Roth IRA Roth Individual Retirement Account
Self-invested Personal Pension (SIPP) for employees		401k plan
Small Self-Administered Scheme (SSAS) for self-employed or owner-directors	Registered Retirement Savings Plan (RRSP)	401k plan

 

Comparison – <Exempt-Exempt-Taxed, the E-E-T route>

	Contribution	Earning	Withdrawal	Withdrawal age
Canada (RRSP) [E-E-T]	Tax-exempted, subject to the limit of 18% of reported income or CAD $27,830 (2020)	Tax-exempted	Taxed	at age 71
The U.K. (SSAS) [E-E-T]	Tax-exempted, subject to limit GBP 60,000 per year [*]	Tax-exempted	Taxed	at age 75
The U.S. [E-E-T] 401k plan	Tax-exempted, subject to the limit of $20,500 under age 50 and over, $27,000 [*]	Tax-exempted	Taxed	at age 72

[*] 2023 adjustment

401(k) plan limits	2022	2023	Change
Maximum salary deferral for workers	$20,500	$22,500	+$2,000
Catch-up contributions for workers 50 and older	$6,500	$7,500	+$1,000
Total contribution limit	$61,000	$66,000	+$5,000
Total contribution limit, plus catch-up contribution	$67,500	$73,500	+$6,000

 

 

Savings Account Comparison - <Taxed-Exempt-Exempt, the T-E-E route>

	Contribution	Income earned and gains after contribution	Distribution/withdrawal
Canada (TFSA)	Taxed, contribution limited to CAD $6,000 per year	Tax-exempted	Tax-exempted
The U. K. (ISA)	Taxed, limited to GBP20,000 per year	Tax-exempted	Tax-exempted
The U.S. (Roth IRA)	Taxed, limited to US$6,000 (or 7,000 for those aged 50 or above)	Tax-exempted	Tax-exempted

TFSA = Tax-free savings account; ISA = Individual savings account; Roth IRA = Roth individual retirement arrangement

 

Recommended articles:

• Taxation of private pensions explained [read]
• 401(k) vs. RRSP: What’s the Difference? [read]
• Tax-Free Savings Account: What To Know? [read]
• TFSA vs. Roth IRA: A Comparison of Tax-Free Accounts in Canada and the U.S. [read]
• The difference between a private pension and a workplace pension [read]