Is it just Ed Balls or is the writing on the wall for higher rate pension tax relief?

4th January 2013

Pension tax relief continues to be used as a political football as the shadow chancellor Ed Balls outlines plans to scale back higher tax relief on pensions to fund a scheme to help the long term jobless back into work.

Balls says that his scheme would cut tax relief for those earning more than £150,000 to 20 per cent from the current 45 per cent.

The current annual limit on what you can put into a pension in a year is £40,000 and today’s Ft.com says the move could see the better off effectively paying more than £10,000 in extra taxes.

Labour says it would use the money to convince employers to take on the long term unemployed by paying for the national minimum wage and national insurance for the first six months after which it hopes they would be taken on permanently. The long term unemployed would face penalties for not engaging with the scheme. It says its target group is the 129,400 of people over 25 have been out of work for more than 24 months.

For the moment Labour says it is setting out priorities but wouldn’t confirm the policy would definitely be in the manifesto.

The Government has already dismissed the move as an old policy – one that was introduced in a similar form by Labour’s last Chancellor Alistair Darling in his final budget.

It led to a very complicated system of tax relief for pensions and was swept away by George Osborne in his first budget. He chose to cut back the amount you could save in a year and over a lifetime and still obtain reliefs rather than set an earnings limit on the reliefs as Darling had done.

In last year’s autumn statement Osborne returned to the tax relief, announcing plans to cut back what you can save in a year and still get full relief to £40,000 and in a lifetime to £1.25million. The new limits will come into effect in the 2014-15 financial year.

Our view

This is not yet Labour party policy but it does begin to feel almost inevitable that higher rate tax relief is on a downward trajectory.

It is usually leftwing think tanks which suggest removing the higher rate of relief altogether, but the pattern appears to be that this is then taken up by Labour or even the Lib Dems in an amended form. Ultimately this gives the Conservative-led Government political wiggle room to cut back reliefs.

So, for example, intra Coalition wrangling about sharing the burden of cuts meant that the Lib Dems agreed to further welfare cuts only in return for the last cut in higher rate relief. In that way Nick Clegg could argue that both the wealthy and the less well off were shouldering the burden of cuts. All this takes part in the context of a general lack of money in government coffers.

Now Labour has linked higher rate relief to help for the unemployed and this makes it difficult, though not impossible, for the pension industry and advisers to make the case to retain the reliefs were Labour to win an election. But it also keeps the issue on the agenda, and if the Coalition or a Conservative government decided to cut reliefs further it makes it easier to do so.

Therefore if you are in the fortunate position to be able to use your higher rate tax reliefs, i.e. if you have an extra £50,000 to invest in a pension and even unused reliefs from previous years (you can carry forward three years worth of any unused reliefs) now may be a good time to think long and hard doing so. It also poses a slightly different dilemma where you are a member of a defined benefit scheme because these changes always seem to hit not just the well off but many middle income earners, particularly if they have had their jobs for a long time – though that is arguably also a reflection of just how generous DB schemes are.

The issues surrounding the latest change were considered by pension journalist John Greenwood in Mindful Money in December.

The cuts to £40,000 and to £1.25 in a lifetime may not be the last. It is quite possible to envisage a situation in the next five years where basic rate tax relief is all that is available.  It may not quite be a case of use it or lose it, but it may be a case of use it or you may lose the chance to do so.

But as always with complicated pension calculations you are almost always better off consulting a qualified pension adviser too.

 

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