Ahead of the Budget on 16th March, there has been a lot of speculation that pension tax relief will be replaced with a flat-rate system.
Tax relief might even be abolished entirely, switching to a Pension ISA system where no tax relief is granted on contributions but investors can make tax-free withdrawals.
A report in the Financial Times last month suggested the flat-rate tax relief system is coming.
The FT suggested it would involve a flat-rate of between 25% and 33%, with the change being implemented in 2017, giving the pensions sector time to adopt new systems.
Under current rules, everyone gets basic rate tax relief at 20% added to their pension fund.
Higher rate taxpayers can then claim tax relief on the difference between basic and higher rates of income tax.
The prospect of tax relief being removed entirely follows a government consultation last year considering the introduction of a Pension ISA; no tax relief on contributions, tax-free investment growth and tax-free withdrawals.
Former Pensions Minister Steve Webb was talking about the prospect of a Pension ISA at the annual conference of the Association of Consulting Actuaries last week.
Webb, who is now Director of Policy at insurer Royal London, explained that replacing tax relief on pension contributions with a Pension ISA could be George Osborne’s ‘Gordon Brown’ moment, referring to the decision by former Chancellor to raid pension funds to the tune of billions of pounds by abolishing dividend tax credits.
Webb said:
“The former Chancellor probably thought that raising billions of pounds from pensions through abolishing dividend tax credits was a complex change which few would understand but which would quietly raise billions from pension savers.
“But the legacy of that damaging change is still being felt today, and the former Chancellor’s name is forever associated with that measure.
“There is a real danger that with the “Pensions ISA” history could repeat itself.
“Abolishing tax relief on pension contributions would certainly raise large sums for the Chancellor, even if some of the proceeds were given back as a government top-up into pension pots.
“But the damage done to pension saving would be incalculable, as pensions are once again seen as a convenient pot for cash-strapped Chancellors.
“Just at the point that millions more people are starting to save through automatic enrolment, upheaval in the tax treatment of pensions is the last thing we need.”
Here at Informed Choice, we believe that abolishing pension tax relief would represent the worst case scenario for long-term retirement savings.
[tweet_box]Abolishing pension tax relief is the worst case scenario for long-term retirement savings[/tweet_box]As Steve Webb explained during his speech to the Association of Consulting Actuaries, it would mean providers and schemes would have to run parallel pension accounts for decades, further complicating an already complex pension system.
It would also remove the tax brake on pension withdrawals, exacerbating the risk that savers would take everything out of their pension pot at once, rather than ensuring it lasted a lifetime.
Perhaps most crucially, making further significant changes to pensions would damage confidence in these tax wrappers as a long-term savings vehicle.
We continue to believe that confidence in pensions will only be fully restored when they are no longer being used as a political football.
Instead, pensions policy should be placed in the hands of an independent commission who are able to take the long-term view.
What do you think will happen to pension tax relief in the Budget next month? Will George Osborne have a ‘Gordon Brown’ moment or will his reputation as a Chancellor tinkering with pensions remain relatively unscathed?
