Chancellor hits high earners' pensions
From April 2011 the tax advantages of pension saving for those earning over £150,000 have been greatly reduced by the recent budget. And the opportunity to make hay in the intervening period has been stifled. We examine the changes.
On this page:
Tax relief restricted for high earners
Anti-forestalling measure
Maintaining a level playing field
State pension changes
Other changes
Chancellor of the Exchequer's comments on limited tax relief for high earners
Our research.
Summary of key points
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The 2009 Budget statement announced that the tax relief on pension savings available to high earners will be slashed from the 2011/12 tax year. It had been widely expected that pension tax relief might be a target for Chancellor of the Exchequer Alistair Darling's second Budget and the announcement has generally been greeted with the reaction "it could have been worse."
Here we examine the planned change, the related measure to prevent highly paid individuals making large pension contributions before the reduction takes effect and the other elements of the Budget affecting pensions and pensioners.
Tax relief restricted for high earners
The chancellor announced that from 2011/12 those with a taxable income of £150,000 per annum or more would no longer benefit from tax relief on pension savings at their marginal rate. Relief is to be tapered so that those earning £180,000 or more will only receive tax relief at the basic rate, which is currently 20%.
The Budget also unveiled a new 50% tax rate, applicable from April 2010, for those with an income of £150,000 or more. Consequently, it is possible that those earning above £180,000 will lose tax relief of 30% on pension savings in 2011.
Full details of the reduction in pension tax relief are not included in the Finance Bill, which was introduced to bring in most of the Budget changes. However, the Treasury has promised to consult on the planned provisions. It is expected that the tapering will work so that tax relief of 1% will be lost for each £1,000 of income above £150,000, so, for example, someone with income of £152,000 will enjoy tax relief on pension savings of 48%. The new tax allowances will work alongside the annual and lifetime allowances.
There is a commonly held view that this change will have a wider adverse effect on pension provision because those affected will often be those responsible for setting corporate pension policy. If pensions are less attractive to them, then the provision of pensions for other employees, it is argued, may become a lower priority.
Anti-forestalling measure
Concerned that those who will be affected by the reduction in tax relief from 2011/12 will attempt to make substantial additional pension savings in the meantime, the chancellor announced anti-forestalling measures in his Budget. These provisions, included in the Finance Bill, prevent those with income of £150,000 or more from gaining tax relief in 2009/10 or 1010/11 at more than the basic (20%) rate on additional pension savings made by themselves or their employer. Any savings from a new salary sacrifice arrangement must be added back in to calculate income.
Those with income of under £150,000 are entirely unaffected. In addition, the first £20,000 worth of annual pension savings can still benefit from tax relief at the individual's marginal tax rate, while any existing, regular contributions above £20,000 can be maintained without incurring a penalty. Furthermore, any pension increases already planned or that are automatic (for example, resulting from annual salary increases, or from promotion) are also exempt. So, the new charge will only apply to those with taxable income of £150,000, who make annual pension savings of more than £20,000 and who increase their existing regular pension savings. The charge applies to the additional pension saving over £20,000.
For defined-contribution arrangements, pension savings are the total contributions from the employer and the individual made during the year. For defined-benefit arrangements, pension savings are the increase in accrued annual pension rights during the tax year multiplied by 10.
Those who change jobs will not be affected if they join an occupational or group personal pension scheme and accrue benefits in the same way as others in the scheme. However, those who start a new job and take out their own personal pension will be caught by the new provisions.
In general, additional contributions made between the start of the 2009/10 tax year and the date of the Budget that fall foul of the new charge can be refunded, if the individual so wishes. Administrators will need to deduct tax from the refunds, but no other reporting is to be required.
HM Revenue & Customs (HMRC) has produced two similar guidance documents1 on the complex forestalling measures: one for the pensions industry and another for individuals. The HMRC website also has a technical guide, explanatory notes for the draft legislation and a ministerial statement. The note for individuals should not be disregarded as simplistic, as it is the only one to contain worked examples, which help to clarify the government's intention.
Maintaining a level playing field
As announced in the Budget, the Finance Bill allows regulations to be made to ensure that payments received by individuals from the Financial Assistance Scheme (FAS) are subject to the same tax treatment as if they had been made from a registered pension scheme. Without this change, tax charges might have applied to some FAS payments received by individuals, notably some lump-sum payments.
Another change included in the Budget is made for a similar reason. Individuals who receive pensions or annuities from an insurance company could find that they instead receive those benefits from the Financial Services Compensation Scheme (FSCS) if the insurer gets into difficulties. Payments from the FSCS are not strictly speaking pensions. Furthermore, under the FSCS, individuals receive only 90% of the amount due, but where pension payments are reduced they generally become subject to tax. The Finance Bill now includes a clause that seeks to ensure that all such payments are treated as if being made by a registered pension scheme and are made without penalty. This change could have retrospective effect. It would be applicable to insurers that fail and that have bought out occupational scheme benefits.
There is a further clause in the Finance Bill that permits regulations with retrospective effect to be introduced, more generally, on pensions tax relief, provided that they do not increase any individual's tax liability.
State pension changes
The basic state pension is currently linked to movements in the retail prices index (RPI) (as at September in the previous year). However, the government has reaffirmed its commitment to increase this pension by a minimum of 2.5% per annum, whatever the level of inflation.
In 2001 the increase in the basic state pension would have been very small due to low inflation. There was a public outcry and the government made a commitment to increase state pensions by at least 2.5% each year, or in line with the RPI if greater. This commitment was open-ended, but was confirmed in February this year by the secretary of state for work and pensions.
The RPI is expected to be negative in September 2009, the index figure that would govern basic state pension increases to be made in April 2010. Alistair Darling dealt with this specific point in his Budget statement, saying: "I want to re-affirm today our commitment to increase the basic state pension by at least 2.5%. So if RPI inflation this September is below zero, as we expect, pensioners can be confident that their pensions will rise in real terms."
The chancellor also announced that the government will, for the first time, ensure that periods when grandparents of working age undertake caring responsibilities will count towards their entitlement for the basic state pension.
Last year, because of the steep increase in energy prices, the government brought in a one-off increase in the winter fuel allowance. The chancellor announced that, although energy prices were now expected to fall, the higher rate would be maintained for a further year: at £250 (an extra £50) for over 60s and at £400 (an extra £100) for over 80s.
The government is to raise the level of savings that will be ignored when assessing entitlement to pension credit, housing benefit and council tax benefit. Currently, the first £6,000 of savings is disregarded but this is to be raised to £10,000. The government says this will increase the income of around 540,000 pension credit claimants, who will benefit by around £4 a week. Furthermore, pension credit recipients who may have overpaid tax on their savings income in the past six years will be contacted as part of a "taxback" campaign intended to encourage people to claim tax back on savings income and, where possible, register to avoid overpaying tax in future. Those who claim are expected to receive around £200 on average.
The uprating of national insurance limits and related changes as contained in the pre-Budget report were confirmed in the Budget.
The Budget included an announcement that the government plans to create a new penalty regime for late filing of tax returns, including by pension schemes. There will be a right of appeal against all penalties and no penalty can be charged if there is a reasonable excuse for the failure.
Finally, one change unrelated to pensions, but of help to pensioners, was the decision to raise the maximum amount that can be saved in Isas by those aged 50 and over. The limit for 2009/10 is going up from £7,200 to £10,200. Investments above the previous limit can be made from 6 October 2009. The higher limit will be applied to all ages from the 2010/11 tax year.
Chancellor of the Exchequer's comments on limiting tax relief for high earners
"In this Budget, there will be new measures to help pensioners and savers on middle and modest incomes. It is important that everyone is encouraged to save for their retirement, and we will continue to support them to do so. But I intend to address an anomaly which sees a tiny proportion at the top taking a large slice of the help we give people to help to save. It is difficult to justify how a quarter of all the money the country spends on pensions tax relief goes, as now, to the top 1.5% of earners. So from April 2011, I will restrict pension tax relief for those with incomes over £150,000 so that it is gradually tapered to the same 20% that the majority of people receive. We will consult on its implementation. I am introducing measures from today to prevent forestalling, but again only those with incomes over £150,000 will be affected."
Hansard (HC), 22.4.09, col. 244.
Our research
This feature is based on the chancellor's Budget statement and related press notices, the new Finance Bill that introduces many of the Budget changes, its accompanying explanatory notes and lobby notes, and on guidance material published by HM Revenue & Customs on the anti-forestalling arrangements on pensions tax relief for high earners. We have also drawn on commentaries produced by HSBC Actuaries and Consultants and Lane Clark & Peacock.
1 Available on the HM Revenue & Customs website (external site).
