7th March 2016
Those subject to the higher rates of taxation and most financial advisers were no doubt rejoicing at the weekend, with the news that the Chancellor has apparently scrapped his planned changes to the tax relief on pension contributions. But what does this mean for savers?
And more importantly, what else is in store for pensions in next week’s Budget? David Smith, director of financial planning at Tilney Bestinvest, analyses whether this is a “get out of jail free card” or simply a stay of execution for pension savers, and more importantly, what other potential horrors lie in wait in next week’s Budget…
The news at the weekend was a welcome relief to many who rely on pensions as the bedrock of their savings portfolio.
Whilst we were unsure as to what the reforms might have been, the widely anticipated reduction in tax relief or the removal of the tax free lump sum could have been disastrous for those approaching retirement or for those who have waited until later in life to aggressively fund their pensions.
The more radical ‘Pension ISA’ would not only have created significant administrative issues in the industry, but the recent campaign by the State to push pension savings would have been severely damaged if there was no tax relief ‘on the way in’ to pensions.
What’s more, many thousands would be pushed into higher rates of taxes, or indeed lose out on the tax credits they so rely upon, had such a radical change been introduced.
Whilst this U-turn is great news, do not be fooled into thinking that this is confirmation that pensions will go untouched in Budget on 16th March and let’s not forget that there are already some very significant changes set to come into force in the new tax year already, with the reduction in the lifetime allowance and the introduction of a tapered annual allowance for high earners.
The £35bn annual cost of pension tax relief may still remain firmly within Chancellor’s sights despite the weekend’s euphoric headlines. So if the tax relief system is to remain in place what could be done?”
Here are three areas where the Chancellor could yet tighten the noose for pension investors. These are:
A further reduction in the Annual Allowance. That is a reduction in the amount that can be saved into a pension within a tax year and achieve tax relief. This amount has fallen significantly over recent years and currently stands at £40,000 per annum. A reduction to £20,000 per annum or even £10,000 per annum as advocated by the Conservative-leaning Centre for Policy Studies could still be announced. Realistically, this is perhaps the easiest target, as it’s typically wealthier professionals that contribute higher amounts to pensions. However, there are scenarios whereby people wait until their later years, when their income is at its best and their liabilities reduced, to significantly fund pensions and play ‘catch up’. These individual’s retirement plans would be thrown into chaos by an aggressive cap on annual savings amounts.
An extension of the Tapered Annual Allowance. A reduction in the Annual Allowance from £40,000 to a minimum of £10,000 for the highest earners in society. From 6th April this year, it is only those with income and pension packages over £150,000 that will be affected; the more they earn, the lower their tax relief on pension contributions. It is quite feasible that the threshold at which the Tapered Annual Allowance kicks in could be reduced even further to incorporate more of society into the Tapered Annual Allowance bracket, representing a large tax saving for the Chancellor.
The removal of ‘carry forward’. The facility to potentially utilise unused annual allowances from the previous three years as well as the current allowance. This allows savers to potentially catch up with their pension savings by making significant contributions in a single year – an especially important facility for those who have been unable to save throughout their working life due to other commitments such as raising a family or building a business.
Whilst a shake-up to the structure of the pension tax relief system may not be announced this year, the weekend’s briefings emphasised that the “timing wasn’t right”, which may have much to do with the upcoming EU referendum… Reform of tax relief on pensions could well return at a later date.
Although the underlying system may not change in this month’s Budget, we would be highly surprised if no other reforms to pension allowances were made.
What is key though, is that as it stands, pensions are one of the most tax efficient savings vehicles around. It is still possible to contribute up to £180,000 in this tax year, with tax relief of up to 60% available. Our suggestion still remains; pension tax relief – get it while you can – it may not be there forever.