On 23rd May 1971, a baby boy called Gideon was delivered into the world. Based on his activities over the few years, I would imagine it was a noisy birth with lots of confusion along the way! Gideon (now 44), changed his name to George at the age of 13 and has been at the forefront of most pension adviser’s worlds for several years now. If I was to meet him today, I would be unsure if I wanted to shake him by the hand or just shake him! We are pension specialists and over the last 5 years, not a budget nor annual statement has gone by without more tinkering. Pensions now are so complicated, that all but the ‘experts’ are confused. So should I shake George Osborne’s hand for providing us with so much work? Or just shake him for confusing so many of our clients? This next budget could be the decider.
The country is still in a bit of a pickle, the predictions about reducing our debt are way, way off the mark. The government wants (it says it needs) more money and will leave no stone unturned. Even a ‘pension’ stone they have kicked so far down the road, it going to take some looking for.
So in a true Robin Hood style, they are looking to take from the ‘rich’ (hardworking higher rate taxpayers) and give to the ‘poor’ (themselves). This they say, will save billions of pounds in tax relief every year.
What happens today?
Pensions have always been paid out of ‘gross pay’, i.e. from your income before you pay tax. That means you get tax relief at the rate of tax you would have paid on that money, so someone earning £60,000 per annum making a £10,000 contribution would end up paying £6,000 net, as they are a 40% tax payer. Someone earning £30,000 would pay a net payment of £8,000 for the same £10,000 contribution – as they were 20% taxpayers, as would a nil rate tax payer earning £10,000 per annum – even though they actually paid no tax.
So what could change?
The original plan to move to an ISA style pension has gone down incredibly poorly and we doubt if that will be the preferred method now. We think that would end pension planning immediately – no incentive to save and then hoping the government doesn’t change the rules down the line and tax the income from these plans wouldn’t encourage many people, in our opinion. What seems more likely is a flat rate added to the contribution. This may for example be 25% or 30% added to your contributions by the government. Former pensions minister Steve Webb argued for a 30% flat rate but current pensions minister Ros Altmann said in July that current tax relief given to higher earners was ‘bound to be regressive’, prompting some to speculate a lower rate. That would mean all taxpayers getting the same level of tax relief however much they earn. Some might say that sounds fair, but while it would benefit the estimated 15 million workers who pay into a pension scheme, the 4.9 million people who pay higher rate tax would be hit hard.
However, the fact that millions more are likely to benefit than lose out explains why 60 per cent of the population would be in favour of a move to a flat rate if it was set at 33 per cent, according to research from Aegon.
High earners pile in
Worried investors are making the most of these earnings related top-ups while they still can, with analysis of a large national pension company showing that so far this tax year, pension contributions from 40% and 45% income tax payers were up 120% on the previous year.
Any higher earners who are looking at paying into a pension, should therefore think seriously about doing so before 16 March. Conversely, for basic rate taxpayers, it may make sense to wait until after that date. However the timing of any changes are subject to many things and the jury is split, with many experts saying it would be brought in immediately, to stop increased contributions being piled in, with others saying the Chancellor would need to give us all twelve months to get our affairs in order. I imagine, for ease, most accountants would rather it ran for the full tax year (so finish on 5th April this year), which is what we guess will happen. But that is a guess!
Will it make pensions simpler to understand?
Research shows that many people do not understand the way pension tax relief currently works. In simple terms if you pay in £100, the Government will add a further amount. If the single rate is 33 per cent, you’d get an extra £50 from the Government. If set at 25 per cent, you’d get an extra £33. At the moment, a basic rate taxpayer gets an extra £25 for every £100 they contribute.
Will it work?
Unfortunately there is a long history of politicians tinkering with UK pensions for short- to medium-term gain. Those changes often proved disastrous over the long-term. History actually suggest the proposed change may well both reduce tax receipts and result in lower pensions for consumers over the long-term (in turn producing pressure for higher state spending). The short- to medium-term tax revenue gained by the shift could be vastly outweighed by the long-term costs to the state and to individuals. (But what politicians have ever been concerned with the long term?)
The knock on effects of less money saved will certainly not be good news for UK PLC, with stockmarkets already hit hard since the record highs of last Spring; less inflows in investments can only be bad news for companies and across asset prices.
We think ALL higher rate tax payers and anyone considering making lump sum contributions into their pension should be contacting their Independent Financial Adviser as soon as possible.