If you’re fortunate enough to receive a bonus on top of your salary, you might be wondering if it’s worth paying it into your pension and putting that money towards your future retirement.
According to new analysis by PensionBee, just £200 extra could add between £305 and £521 to your pension pot, depending on how far off you are from retirement. By doing this each Christmas, a 25-year-old today could accumulate an extra £16,483 by retirement or an impressive £32,970 with larger contributions of £400 each year.
In this article, we’ll look at whether you can pay your bonus into your pension, what to consider and how to do it.
Can I pay my bonus into my pension?
If you’re one of the 9.6 million people currently enrolled in a defined benefit pension scheme, you won’t be able to pay your bonus into your pension. This is because your retirement income is based on your salary and the number of years you work at your employer, rather than a pot that you pay into.
However, if you’re enrolled into a defined contribution pension - which most modern workplace pension schemes are - you do have the option of paying a cash bonus into it.
How do I pay a bonus into a pension?
You can pay a cash bonus into a defined contribution pension using a process called ‘bonus sacrifice’ (similar to a ‘salary sacrifice‘). It involves paying all or part of your bonus into your pension rather than receiving it in your bank account.
You’ll need to instruct your employer to pay your bonus into your pension for you, as they won’t do this automatically.
Of course, you can receive your bonus into your bank account and then pay this into a pension, just like a regular pension contribution. However, you’ll lose out on the income tax and National Insurance (NI) savings offered by a bonus sacrifice. More on this below.
What are the pros and cons of paying a bonus into your pension?
A major benefit of directing your bonus immediately to your pension (via bonus sacrifice) is that it’s tax efficient. You don’t pay income tax or NI on the portion of your bonus that you contribute to your pension since it doesn’t count towards your income. This means you’ll receive the full amount without losing any value.
This can be particularly effective if you receive a large bonus or a bonus that pushes you into the next income tax band.
However, you can only contribute 100% of your salary or up to £60,000 into your pension each tax year (2024/25). You might be able to pay in more if you ‘carry forward’ unused contributions from the previous three years. So bear this in mind if you receive a large bonus or already make large contributions. When bonus or salary sacrifice is being used, it can’t reduce earnings below national minimum wage.
You’ll also need to bear in mind that your bonus usually won’t count as income if it’s sacrificed to your pension. This could affect the amount you’re able to borrow on a mortgage, since loan amounts are usually calculated as a multiple of your annual salary.
Since you won’t have to pay income tax on your bonus if it’s paid immediately into your pension by your employer rather than to you in cash, bear in mind that you won’t receive an additional 25% tax top up on your bonus contribution (unlike your personal contribution from your salary). This is because with a bonus sacrifice, your employee has agreed to reduce your pre-tax salary, so it’s treated in the same way as an employer contribution. For tax relief to apply, the payment must be net of income tax, rather than a gross payment.
Additionally, any other benefits that are calculated based on your salary could be impacted.
Paying a bonus into your PensionBee pension
Your PensionBee pension is considered a personal pension, which means you pay into it directly from your bank account - not from your employer. So your bonus can’t be sacrificed to a PensionBee pension unless you have arranged with your employer that they’ll send it (subject to our usual processing requirements).
However, if you’ve already received your pension and it’s too late to sacrifice it, you can put it into your PensionBee pension as a normal contribution.
Risk warning
As always with investments, your capital is at risk. The value of your investment can go down as well as up, and you may get back less than you invest. This information should not be regarded as financial advice.
