With the summer holidays drawing to a close, the inevitable round of speculation about pension tax relief changes in the Autumn Budget has begun.
Media reports suggest that Chancellor Philip Hammond has his eyes on cuts to higher rate tax relief on pension contributions when he presents his Budget statement to the House of Commons in November.
The Chancellor has a challenging Budget ahead, with a desperate need to find extra funding for the NHS, the £20bn already pledged by the Prime Minister.
According to an unnamed senior government minister, Hammond believes higher rate tax relief on pensions represents 'one of the last remaining pots of gold we can raid'. This suggestion will worry higher rate taxpayers who currently enjoy this generous tax relief on their pension contributions.
As things stand, basic rate relief is added to the pension pot, with the ability for higher rate taxpayers to reclaim the difference between basic and higher rates of income tax through self assessment. However, the unnamed government source is also reported to have said Hammond is only likely to target those who can afford to contribute tens of thousands of pounds to their pension pots each year.
Pension tax relief is always under threat in the Budget, if media reports leading up to the big day are to be believed. The last major round of speculation was a couple of years ago, when then Chancellor George Osborne had his eye on £1.5bn of tax savings by changing pension tax relief to a flat-rate.
Lending weight to the speculation on this occasion is a Treasury Committee report, published last month, which concluded existing pension tax relief was neither an effective or well-targeted way of encouraging people to save into pensions.
Despite recommending the Treasury considered making fundamental reform to pension tax relief, the report recommended that the current system could be improved through further, incremental changes to tax relief.
According to the report, ‘Household finances: income, saving and debt’: “The government should consider replacing the lifetime allowance with a lower annual allowance, introducing a flat rate of relief, and promoting understanding of tax relief as a bonus or additional contribution.”
Cutting the pension annual allowance is an option on the table for Hammond. The annual allowance is a limit on how much you can contribute to your pension each year, while still receiving tax relief. It currently stands at £40,000, but is tapered down to as low as £10,000 for higher earners with earnings exceeding £210,000 a year.
For those who have taken taxable income flexibly from their pensions, a Money Purchase Annual Allowance (MPAA) of £4,000 applies instead of the £40,000 figure.
In any case, your earnings in the tax year need to be sufficient to justify the size of the pension contribution, with opportunities to bring forward any unused annual allowance from the previous three tax years – unless that is the MPAA applies to you.
This ability to carry forward unused annual allowance could also be attacked in the Autumn Budget, changing to a ‘use it or lose it’ approach, similar to use of Individual Savings Account (ISA) allowances in each tax year.
Should the Chancellor decide to cut the annual allowance in his Autumn Budget, to a yet unknown figure, he might give back the abolition of the lifetime allowance as a concession. The lifetime allowance is a limit on the total value of pension benefits you can draw from all pension schemes, either as lump sums or retirement income, without it triggering an extra tax charge. Since April 2018, the lifetime allowance has been set at £1,030,000 and it’s scheduled to increase at the start of each tax year, in line with price inflation.
Relatively few people are caught by the lifetime allowance, and many of those who will be are entitled to a higher lifetime allowance figure by virtue of applying for ‘protection’ certificates when it was historically set at a higher level.
For some of those individuals with lifetime allowance protection certificates in place, this entitlement to a higher lifetime allowance came at a cost; not being able to make any future pension contributions, or losing that protection and seeing more of their pension benefits being subjected to a future tax charge. Abolishing the lifetime allowance entirely would be a popular move for those fortunate to have this level of pension benefits, even if it came with a corresponding reduction in the annual allowance.
Another possibility is the Chancellor will scrap the current system of pension tax relief, replacing it with a flat-rate tax relief. Earlier this year, think tank the Royal Society for the encouragement of Arts, Manufactures and Commerce (RSA) put forward the case for a flat-rate of pension tax relief at 30%, specifically as a way to help the self-employed.
They estimated this reform would leave three-quarters of savers better off, including those earning low incomes and the self-employed. It would also save the Treasury a great deal of money each year in tax reliefs.
Of course the one pension perk where conspiracy theories circulate ahead of each Budget is pension tax free cash. Since tax-free cash was renamed the ‘pension commencement lump sum’, it has seemed fair game for the Treasury to place a cap on how much lump sum can be taken tax-free, or simply subject all cash withdrawals from pensions to income tax charges.
This form of attack on pensions seems far less likely than a cut in the annual allowance or even the introduction of flat-rate pension tax relief. Other potential opportunities being considered for the Budget will undoubtedly include cutting tax breaks on smaller company investing, which could spell bad news for Venture Capital Trusts and Enterprise Investment Schemes.
If you think you will be potentially worse off should the annual allowance be cut, ability to carry forward unused annual allowance removed, or pension tax relief changed to a flat-rate, then taking some action ahead of the Budget could make sense.
Why not talk to Kellands about your options? We can help you understand the impact of any of these changes on your own long-term financial planning.