What is the maximum tax relief from a pension plan?

Find out how much you could save on your personal income tax thanks to your pension plan.

Pension plans are savings and investment instruments designed to generate retirement savings that allow working people to supplement their state pension upon finishing working life. One of the great advantages offered by this type of product is the possibility of making the most of investment savings without needing knowledge or experience in the field, as the invested capital is left in the hands of a group of specialized managers.

However, the biggest selling point of pension plans is undoubtedly their advantageous tax treatment: contributions are subject to tax incentives, thus reducing the tax base for Personal Income Tax and saving a considerable amount each year in a person's annual tax return. In this article, we discuss how to deduct your contributions and the maximum deduction from a pension plan so that you can start paying less taxes as a result of your investment.

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Annual contribution limit for a pension plan

Pension plans get their funds from the investment of the capital contributed by participants. These contributions can be made on a timely or regular basis, according to the preferences of the holder, and are subject to a limit established by law: €8,000 per year (in common territory). The minimum annual contribution, on the other hand, is determined according to the specific conditions established by each pension plan. Nevertheless, this amount is usually quite low and within the reach of any investor.

Apart from these general limitations, there are two cases in which it is possible to exceed the established maximum contribution.

  • Firstly, anyone whose spouse has an income of less than €8,000 per year or does not generate any type of income can contribute a maximum of €2,500 per year to their partner's pension plan, regardless of the amount invested in his or her own plan.
  • As for persons with disabilities the maximum annual contribution sits at €24,250, while contributions made on behalf of third parties (persons directly related to the disabled person or collaterally related up to the third degree inclusive, as well as the spouse or guardians or caretakers) can be up to €10,000 per year (as long as the total limit of €24,250 is not exceeded).

Tax deductions for pension plans

Contributions made to a pension plan can be deducted directly from the taxable income base of the Personal Income Tax corresponding to that same year. This way, the taxpayer has the ability to reduce the amount of capital to be declared and, as a result, pays less in taxes.

For example, imagine that a taxpayer earned €25,000 last year and contributed €6,000 into his or her pension plan. Originally, the tax base for calculating Personal Income Tax would be €25,000, with a tax rate of 24% for the first €20,500 and 30% for the remaining €4,500, so you would have to pay €6,500 (€5,160 + €1,350) in taxes. However, by deducting contributions made to your pension plan, the tax base would be reduced to €19,000, all of which are located in the 24% Personal Income Tax tranche, so the final amount to be taxed would be only €4,560.

In the same way as contributions, tax deductions associated with pension plans are subject to a limit established by law. In this way, the maximum deduction of a pension plan corresponds to the lesser of the following amounts: €8,000 per year or 30% of the net yield from work and economic activities. If you exceed this deduction limit, you have the option of transferring any excess to your personal income tax returns during the next 5 tax years.

Contributions to pension plans should be reflected in the "Reductions in tax base" section of Personal Income Tax (IRPF) declaration.

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Taxation for redeeming a pension plan

In general terms, pension plans are designed to be redeemed once the participant retires. However, there are other exceptional liquidity contingencies and situations, such as long-term unemployment, dependency, serious illness, or inability to work, among others. Starting on January 1, 2025, it will also be possible to redeem shares that are at least 10 years old.

Once the time to redeem the plan has come, the funds obtained are taxed as earned income, generating the opposite effect of the contributions: in the Personal Income Tax return, they must be included in the tax base, thus increasing the amount of taxes to be paid. In this sense, plan holders have the possibility to redeem the capital in a single payment or in the form of income, deciding whether to tax the total capital in a single tax return or to pay the fees in installments in successive years.

Contributions made before 2007 in the form of capital enjoy a tax deduction of 40%, provided that the redemption occurs within the period stipulated by law, which, since 2015, is two complete fiscal years from the triggering event. In general, the form of redemption with a more progressive tax is typically the monthly income option, as this is spread out over several financial years.

If you still have any questions about the tax deductions for your pension plan, go to BBVA. Go to bbva.es and discover our pension plan simulator to calculate tax savings on your contributions. We also offer a wide variety of pension plans so that you can choose the product that best suits your characteristics. Prepare for your retirement with BBVA.

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