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| Budget 2016: What will the chancellor do to pensions? | Budget 2016: What will the chancellor do to pensions? |
| (4 days later) | |
| It is less than a year since the government launched what came to be known as the pension "freedoms" - the right for those over 55 to take as much money as they like from their pension pots, subject to tax. | |
| Now, ahead of the budget on 16 March, the pensions industry is again on the edge of its seat. | Now, ahead of the budget on 16 March, the pensions industry is again on the edge of its seat. |
| Amongst the rumours: The chancellor is about to abolish the 25% tax-free lump sum; the maximum annual contribution could be cut to as low as £25,000; or the whole tax relief system could be abolished, in favour of an Isa-style system of tax upfront, but tax free on the way out. | Amongst the rumours: The chancellor is about to abolish the 25% tax-free lump sum; the maximum annual contribution could be cut to as low as £25,000; or the whole tax relief system could be abolished, in favour of an Isa-style system of tax upfront, but tax free on the way out. |
| So what are the chancellor's options - and which is he likely to favour? | So what are the chancellor's options - and which is he likely to favour? |
| Flat-rate relief on contributions | Flat-rate relief on contributions |
| At the moment, basic rate taxpayers who pay into a pension get 20% tax relief. Higher rate taxpayers get 40% - and top rate taxpayers get 45%. | At the moment, basic rate taxpayers who pay into a pension get 20% tax relief. Higher rate taxpayers get 40% - and top rate taxpayers get 45%. |
| But higher rate tax relief costs the Treasury some £7bn a year, and clearly favours the well-off. | But higher rate tax relief costs the Treasury some £7bn a year, and clearly favours the well-off. |
| Replacing this with flat-rate relief would be beneficial to most workers, AND save the government money. | Replacing this with flat-rate relief would be beneficial to most workers, AND save the government money. |
| The lower the figure is set, the better off the Treasury would be, but the smaller the benefit to savers. Options being talked about are 25%, 30%, 33% or, if the chancellor was in generous mood, even 35%. | The lower the figure is set, the better off the Treasury would be, but the smaller the benefit to savers. Options being talked about are 25%, 30%, 33% or, if the chancellor was in generous mood, even 35%. |
| But, as has been pointed out vehemently by the pensions industry, higher and top rate taxpayers stand to lose. | But, as has been pointed out vehemently by the pensions industry, higher and top rate taxpayers stand to lose. |
| The Association of British Insurers (ABI) has lobbied hard for this solution, calling it a "savers' bonus". But The Pensions and Lifetime Savings Association (PLSA) has said it would produce little benefit to basic rate taxpayers, especially if set at 25%. | The Association of British Insurers (ABI) has lobbied hard for this solution, calling it a "savers' bonus". But The Pensions and Lifetime Savings Association (PLSA) has said it would produce little benefit to basic rate taxpayers, especially if set at 25%. |
| Winners and Losers | |
| Clearly basic rate taxpayers would gain from a flat rate of tax relief, while higher and top rate taxpayers would lose out. | |
| But even under the current system, calculating tax relief is a complex matter. | |
| Suppose John, a basic rate taxpayer, wants to contribute £8,000 into his pension. To earn that sum, he would have been paid £10,000 gross - ie before tax. The difference - £2000 - is what he gets back in tax relief. £2000 is 20% of the gross, or pre-tax, amount. | |
| If John were a 40% taxpayer he would need to make only a £6,000 net payment for a gross contribution of £10,000. His tax relief would be £4,000. | |
| The table below provides an indication of how much John would stand to win or lose if we changed to a flat rate system. | |
| Top rate taxpayers (45%) stand to lose even more. | |
| Isa-style system | Isa-style system |
| One idea the Treasury has examined is to make pensions like Individual Savings Accounts, or Isas. | One idea the Treasury has examined is to make pensions like Individual Savings Accounts, or Isas. |
| Pension savers currently pay no tax on money they put into a pension, but they do pay tax on the money they take out. | Pension savers currently pay no tax on money they put into a pension, but they do pay tax on the money they take out. |
| An Isa system would be the opposite: Income tax would be paid before the money was saved, but it would be tax-free when taken out. | An Isa system would be the opposite: Income tax would be paid before the money was saved, but it would be tax-free when taken out. |
| If this was chosen, the current 25% tax-free lump sum would also disappear. | If this was chosen, the current 25% tax-free lump sum would also disappear. |
| The huge advantage to this from the Treasury's point of view is that the government would immediately save billions of pounds in up-front tax relief. | The huge advantage to this from the Treasury's point of view is that the government would immediately save billions of pounds in up-front tax relief. |
| But to run an Isa system alongside the current system would be horribly complex. | But to run an Isa system alongside the current system would be horribly complex. |
| And there would be no immediate incentive to encourage people to save more, as the tax benefits would only occur after they had retired. | And there would be no immediate incentive to encourage people to save more, as the tax benefits would only occur after they had retired. |
| While the former pensions minister, Steve Webb, thinks this option is still a strong possibility, in practice it is unlikely. | While the former pensions minister, Steve Webb, thinks this option is still a strong possibility, in practice it is unlikely. |
| After all, the title of the Treasury's consultation is: "Strengthening the incentive to save". Furthermore one Treasury minister confirmed to the BBC that this will be the main focus of the changes. | After all, the title of the Treasury's consultation is: "Strengthening the incentive to save". Furthermore one Treasury minister confirmed to the BBC that this will be the main focus of the changes. |
| Cutting Allowances | Cutting Allowances |
| The amount anyone can save into a pension - and get tax relief - is already capped in two regards: | The amount anyone can save into a pension - and get tax relief - is already capped in two regards: |
| Cutting these limits further would save the Treasury more money. | Cutting these limits further would save the Treasury more money. |
| Tom McPhail, pensions expert with Hargreaves Lansdown, thinks a reduction to the Annual Allowance is "highly likely, possibly down to as low as £25,000". | Tom McPhail, pensions expert with Hargreaves Lansdown, thinks a reduction to the Annual Allowance is "highly likely, possibly down to as low as £25,000". |
| But reducing it would be difficult for savers who make large contributions near retirement, to catch up on earlier under-funding. | But reducing it would be difficult for savers who make large contributions near retirement, to catch up on earlier under-funding. |
| As for the Lifetime Allowance, Mr McPhail describes it as a "perverse irrelevance", but believes the government may be reluctant to give it up. | As for the Lifetime Allowance, Mr McPhail describes it as a "perverse irrelevance", but believes the government may be reluctant to give it up. |
| Abolishing salary sacrifice | Abolishing salary sacrifice |
| Many employers offer their staff "salary sacrifice". Employees agree to take a smaller salary, in return for increased benefits, including pension contributions. | Many employers offer their staff "salary sacrifice". Employees agree to take a smaller salary, in return for increased benefits, including pension contributions. |
| This can mean the employee pays less income tax, while the employer saves on National Insurance contributions. | This can mean the employee pays less income tax, while the employer saves on National Insurance contributions. |
| This is widely seen as a loophole, which costs the Treasury a significant amount of revenue. The chancellor could well decide to abolish it, or place restrictions on the way it operates. | This is widely seen as a loophole, which costs the Treasury a significant amount of revenue. The chancellor could well decide to abolish it, or place restrictions on the way it operates. |
| Doing nothing | Doing nothing |
| After an eight-month Treasury consultation - which has the potential to save the government money and improve fairness - it is unlikely the chancellor would choose this option. | After an eight-month Treasury consultation - which has the potential to save the government money and improve fairness - it is unlikely the chancellor would choose this option. |
| "Incredulity meters would explode, jaws would drop and hats would be eaten," says Tom McPhail. | "Incredulity meters would explode, jaws would drop and hats would be eaten," says Tom McPhail. |
| But equally well, the chancellor may decide not to do anything too radical. Last year's pension reforms are still bedding in, and the government's big idea of auto enrolment has a long way to go. | But equally well, the chancellor may decide not to do anything too radical. Last year's pension reforms are still bedding in, and the government's big idea of auto enrolment has a long way to go. |
| Many small employers, and workers, are struggling to understand those changes. The last thing they want - or the industry can stand - will be another upheaval of the pensions system. | Many small employers, and workers, are struggling to understand those changes. The last thing they want - or the industry can stand - will be another upheaval of the pensions system. |