Higher rate tax relief is back in the Treasury’s sights. John Greenwood has a look down the barrel
With this year’s crucial Budget just weeks away, speculation over the future of tax relief on pensions is building.
Danny Alexander, chief secretary to the Treasury, reiterated his party’s desire to severely curtail higher rate tax relief in The Daily Telegraph last month, and there have been other reports of Treasury plans to cut relief. Politicos suspect the government is testing the public mood at the prospect of more reductions in tax relief for higher earners.
The savings to be made are potentially significant – Standard Life has calculated the saving to the Treasury for scrapping higher rate tax relief for everybody at between £5bn and £7bn. Scrapping it for those on more than £100,000 would save £3.6bn, while taking it away at 50 per cent would save just £500m. Reducing the annual allowance to £40,000 would save £600m, rising to £1.6bn to £2bn if it were pushed down to £30,000. Scrapping salary sacrifice on pensions would save £2bn, the life office estimates.
Michael Johnson, research fellow at the Centre for Policy Studies and former head of David Cameron’s pre-election Economic Competitiveness Policy Group, was arguably the first to put together a cohesive case for an overhaul of higher rate tax relief on pensions into the public domain. He believes it is an idea that is gaining momentum to the point where we could see yet more tax relief taken away in this Spring’s Budget.
“I have noticed a change in the way the matter is being discussed,” says Johnson. “There is a crescendo of noise about the issue that has been growing for a couple of years. And the LibDems are putting a lot of pressure on the Tories to increase the tax threshold to £10,000. That has to be financed, and tax relief on pensions is one of the easiest ways to do that.”
The problem with reducing the annual allowance is it hits plan sponsors, the decision makers who decide whether to put in good schemes. That would hardly make for a good start to autoenrolment
It is not as though we have not been here before. Then-chancellor Alistair Darling’s 2009 plans to axe relief for those earning more than £150,000 were roundly savaged by virtually everyoneoutside the Labour Party. For this reason, few think actual abolition of relief will happen.
David Robbins, senior consultant at Towers Watson, says: “I find it difficult to believe they are seriously looking at restricting tax relief to the level of the basic rate. The Tories and LibDems both said some very critical things about how horrible those proposals were.
It is far simpler to do it at a lifetime and annual allowance level. Doing it through tax relief is very messy indeed, not to mention the fact they have just formalised the rules on auto-enrolment,” he says.
“And let’s not forget, while most higher rate taxpayers fall back to being basic rate taxpayers in retirement, there are still some who remain higher rate taxpayers in retirement. It would be a very strange pensions system where you got 20 per cent tax relief on the way in and then were taxed 40 per cent on three quarters of it on the way out,” adds Robbins.
Paul Goodwin, director of workplace savings at Aviva, says: “If I had to call it, I would predict a reduction in the annual allowance, if anything. If you put a cap on tax-free cash it comes over as an arbitrary, retrospective tax hit and the Treasury doesn’t get the benefit for a long time.
“But the problem with reducing the annual allowance is it hits plan sponsors, the decision makers who decide whether to put in good schemes. That would hardly make for a good start to auto-enrolment.”
For Joel Adams, joint CEO, Lift-Financial, the annual allowance is by far the most straightforward way for the Treasury to raise revenue. He says: “Just hitting tax relief would not be fair. Just because two people earn the same amount does not mean they pay the same amount of tax.”
Adams believes that doing so might not recoup as much tax as HM Revenue & Customs thinks as most high-earners will have stocked up on the carry forward allowances this year and will have therefore done much of the pension contribution activity they were going to.
“Next year our clients will not be paying anywhere near as much into pensions. Any tightening will to an extent be closing the gate after the horse has bolted. I was sceptical when they introduced the three year carry forward rule, as it meant most people could still get a lot into their pension, and they have done. But a £30,000 annual allowance would not ruffle too many feathers.”
Some might argue that the industry should not be too welcoming of such an attack on its livelihood. But Johnson believes there is a growing feeling across the political world that the UK financial services system’s goose is cooked and that, tax relief on pensions is just one of several symptoms of a sickness at its core. He says: “Tax relief and NI contributions amount to £30bn that is in part propping up parts of the financial services industry. You have to ask what is this tax relief for.”