Low earners miss out on £150m in pensions tax relief

Members of pension schemes who do not pay income tax are granted basic rate tax relief of 20 per cent on pension contributions up to £2,880 a year.

In practice, this means HM Revenue & Customs will top up a net contribution of £2,880 to a gross £3,600.

But this tax relief is only available where the pension scheme operates on a relief-at-source basis, which is only accessible through a handful of companies.

This is not available for schemes that operate a net pay arrangement — the majority of pension funds in the market. 

In November 2019, “ the Conservative government recognised the problem and promised to fix the system”, Quilter noted. 

Since then, around £142m has been lost in pension funds. Furthermore, figures show that 1.5m people lost £62.60 in the 2020-21 tax year, the wealth manager stated.

The issue was first raised in parliament in 2016, and since then low earners have lost £265m in tax relief.

“If this continues for another year, then the loss will be another £95m,” Quilter stated

While this may not seem like a huge sum, once the “impact of compound interest when invested in the pension is taken into account, these are significant sums of money that can make a difference to someone’s retirement”, it added

As reported by Pensions Expertin July last year, HM Treasury launched a call for evidence, seeking industry views on how to end the net pay anomaly affecting low-paid earners in the pensions tax relief system. 

However, no results from this consultation have been published as yet.

The pensions industry, meanwhile, had its own thoughts on the appropriate methodology for solving this issue.

The Net Pay Action Group and the Pensions and Lifetime Savings Association suggested in a February 2020 in letter to the Treasury that HMRC could adjust the P800 process for calculating tax over- and underpayments to automatically collect real-time information on contributions and salary, allowing top-ups to be made. However, legislative change is needed to implement this solution.

Ian Browne, retirement planning expert at Quilter, said: “We all know the feeling of a never-ending to do list and a bursting inbox.

“However, few of us are responsible for the retirement funds of the nation and costing the lowest earners £150m by failing to tick something off.

“Yet, the government doesn’t seem to comprehend the cost of its sloth-like policymaking. The net pay issue is not one that has recently come to light, and every year the government fails to rectify the situation millions more are lost.”

Browne continued: “On top of the growing gap created by the government, we are seeing an increase in multi-jobbers.

“Many people who have several jobs with lower pay will miss out on the government top-up more than once and it will accumulate to have a dramatic impact on their future prosperity."