In his last Budget, Chancellor George Osborne announced a consultation on pensions tax relief. At present, tax relief is given by deducting pension contributions from a worker’s salary before tax is levied, so those on higher rates of income tax were receiving more tax relief than lower-paid workers. This was acknowledged to be unfair and it was suggested that, in future, pensions could be taxed like ISAs, with contributions made from taxed income and the resulting pension being paid tax-free.
The consultation certainly raised a great deal of debate. Indeed, so much that the Chancellor has now stated that no changes will be made to tax relief in the forthcoming Autumn Statement, and the Government will respond to the consultation in next Spring’s Budget.
The consultation also hid what is almost certainly a tough struggle between the Government and the Treasury. The Government would not be too unhappy to leave the current system of tax relief as it is, perhaps fixing the tax relief at 30% for everyone, a rate which the Government acknowledges would be fairer. The Treasury, on the other hand, has always hated tax relief and wants its tax now, not in 30 years’ time when the pension will start being paid.
The deciding factor in delaying the decision might have been a report from the National Institute of Economic and Social Research (NIESR). The report made the point that, although pensions like ISAs are easy to understand and might result in higher savings in the short term, over the longer term it would result in pensioners paying no income tax at all.
This is highly unsatisfactory as pensioners now have, on average, higher disposable incomes than workers. Most pensioners have paid off their mortgage and their children have left home. This is unlikely to change over the next 20 years. The result would be that the Treasury would have far less money to run the country. A short-term gain for the Treasury would result in future pain.
It seems that the Government realised rather late in the day that the matter of pension tax relief was rather more complicated than it originally thought. Our guess would be that tax relief will be left as it is but limited to a percentage – perhaps 27% or 28% – that would result in the same overall tax “take”, while being perceived as being fairer to the lower-paid.