Leave pensions tax relief alone for the time being, argues Embark's Robert Graves, explaining how more changes to the system will only put savers off pensions.
When politics and fiscal necessity collide, outcomes are difficult to predict. But the current system should be left well alone.
Reforms in other big ticket areas are more likely to aid the Treasury, such as looking at inheritance tax or national insurance
Pension contribution tax relief has long been regarded as low hanging fruit for the Treasury.
But despite having cut the annual allowance and the money purchase annual allowance, the Treasury still feels it is giving away a huge sum in pension tax relief, which is not helped by the ongoing success of auto-enrolment.
Spending on pension tax relief should serve to avoid a bigger bill down the line for state benefit provision for an ageing population.
There has been talk of moving to a flat rate system of tax relief that would see a redistribution of the tax incentive away from the wealthy to those with less.
This has generally been presented as cost neutral, which means it would not give the much-needed boost to the Treasury’s coffers.
What is the alternative?
Further limiting pension tax relief by adjusting the existing mechanisms is a more obvious choice. One could argue that the current annual allowance of £40,000 is more than generous enough for the mass market. Indeed, some would cut it in two.
But at £20,000 it will increasingly impact ordinary workers with long service, for example those in public sector schemes, in receipt of a reasonable pay rise.
It also does not cater for those non-regular savers who ramp up their pension savings in later years when they are more able to do so.
The amount of pension contribution tax relief available to higher rate tax payers is regarded as the juiciest fruit because a very large proportion of what the Treasury ‘spends’ on pension contribution tax relief goes to a small group of higher earners.
While the Treasury could look to reduce the income thresholds at which the tapered annual allowance begins to bite, will this deliver the savings the Treasury requires against a backdrop of imposing this complex mechanism on more people?
Furthermore, if higher rate tax payers are squeezed, they may start seeking alternative tax reliefs that could reduce Treasury income in other areas. If the movers and shakers become disenfranchised from pensions, this could lead to stigma around having a pension plan as it could be seen as a sign you are not successful.
Pensions should be left alone for the time being, at least to let the current system settle down and auto-enrolment contributions ratchet up. Continued change merely exacerbates the problem, by encouraging people to make contributions now rather than later for fear of losing out.
Reforms in other big ticket areas, such as looking at inheritance tax or national insurance, are more likely to aid the Treasury.
Robert Graves is head of pensions technical services at Embark
