Budget 2021: Government announces net pay tax relief top-up

The change, announced with the Autumn Budget 2021 on Wednesday, comes after calls to end a net pay anomaly were raised at the 2020 budget, and a subsequent call for evidence was made.

The solution will “broadly equalise outcomes for all lower-earning pension savers”, economic secretary to the Treasury John Glen said in the document’s foreword.

Currently, employees contributing to relief at source schemes received a top-up at 20 per cent on their pension contributions, even if they do not pay or have a lower rate of income tax. In contrast, employees contributing to a net pay arrangement scheme receive tax relief at their marginal rate, which for those with taxable earnings at or below the personal allowance is 0 per cent.

The proposed fix for low-paid workers is messy, belated and may well be ineffective

Steve Webb, LCP

The government said this “creates an anomaly in which individuals in similar situations receive different levels of tax relief and consequently have differing levels of take-home pay, depending on how their pension scheme administers pensions tax relief”.

But the change will introduce a system to make top-up payments directly to low-earning individuals saving in NPA schemes in respect of pension contributions made from 2024-25 onwards.

Up to 1.2m individuals, 75 per cent of whom are women, could benefit by an average of £53 a year, according to the response.

As a result of this change, all lower-earning pension savers should now receive similar outcomes, regardless of how their pension scheme is being administered for tax purposes, the government said.

The top-ups will be paid after the end of the relevant tax year, with the first payments being made in 2025-26 and continuing thereafter. The Treasury said that the time lag between the announcement and implementation of this system is due to the complex nature of the IT systems changes required, as well as other ongoing HM Revenue & Customs delivery programmes.

The government intends to publish draft legislation at L-Day 2022 to be legislated for in a subsequent finance bill, although the government said that additional discussions may be needed with the Scottish government as its starter rate tax band is 1 per cent lower than England’s.

Compounding complexity

Sir Steve Webb, former pensions minister and partner at LCP, welcomed the change but said that the proposals pose several issues, including the dependency on workers claiming the top-up, and the risk of a “massive non-take-up”, while further contributing to the complexity of the pensions system.

He said: “The proposed fix for low-paid workers is messy, belated and may well be ineffective. The problem of low-paid workers missing out on tax relief has been going on for a decade and will still go unfixed for another three years. And if it relies on people claiming these top-ups there is a real risk of non-take-up.

“This is yet another sticking plaster response to a problem with the pensions tax relief system, which needs a systematic overhaul,” he added.

Similarly, James Jones-Tinsley, self-invested pensions technical specialist at Barnett Waddingham, said that the change will benefit low earners, but questioned the government’s approach to the announcement.

He said: “At last the government has seen fit to meet its 2019 manifesto commitment to resolve the pensions tax relief loophole. Hidden in the little red book is the introduction of a system to make top-up payments directly to low-earning individuals saving in pension schemes using a net pay arrangement from 2024-25 onwards.

“This may feel like small print, but it will in fact directly support the 1.5m low-paid workers, mostly women, harmed by the tax relief discrepancy between ‘relief at source’ and ‘net pay’ workplace pension schemes, putting more money into the retirement pots of the people who need it most.

“The fact [Rishi] Sunak did not see fit to include this in his speech betrays a wider issue though — the government consistently fails to adequately tackle the topic of pensions. Whether this is because it is too complex, too unpalatable, or too politically divisive is unclear,” Jones-Tinsley continued.

“However, without real reform of the money purchase annual allowance, tapered annual allowance, and pension death benefits tax regime, neither the UK’s retirement dilemma or the Treasury’s fiscal debt is going to be resolved.”

Admin investing

The government will also invest £71m in modernising the administration of pensions tax relief, including RAS claims, and to address the McCloud remedy.

In the response to the government’s consultation, there was a “clear consensus held by the vast majority of respondents that RAS was both more complex and placed more burdens than net pay arrangements on schemes, HMRC and members,” the document stated.

Of the respondents who commented on cost, all felt RAS was more expensive than net pay arrangements to administer.

To overcome this, the government has announced a £71m investment in the modernisation of pensions tax relief administration, including RAS claims.

It comes after widespread calls to promote digitisation were made to the government within the call for evidence.

The document states that there was an “overwhelming support for digitisation of RAS”, with almost half of respondents expressing views on the topic and all were supportive.

Although the government acknowledged that the industry would need time to prepare, with one response suggesting a period of 12-24 months, respondents said that electronic submissions of forms should continue after Covid.