By Tom Murray, Head of Product Strategy, Exaxe
Clearly there are going to be changes. There was a direct promise in the Autumn statement to make the Treasury’s position known on the issue of pension taxation in the spring, and the various leaks and hints dropped by officials since then have been too frequent to allow for no changes; the sense of anti-climax would be too great and would reflect badly on the Chancellor.
So the only question is how far the Treasury will move in its attempt to reform pensions and, as a by-product, reduce the amount of tax lost via the pension contribution tax allowance. Indeed there is certainly a strong case for a complete overhaul of the position of pensions within the overall economic strategy of the government. The introduction of pensions freedom, and the subsequent immediate cashing in of the total pot by a significant amount of retirees, almost 68% according to the FCA’s own figures, makes the process look less like saving for a pension and more like saving for a retirement lump sum. There is nothing wrong with that, of course, but the logic of a taxpayer subsidy for a lump sum to be spent on the first day of one’s retirement is suspect.
The original pension deal was that people who saved for their retirement would not be a burden on the taxpayer and therefore they should be encouraged by tax-incentivising the savings. It was a classic ‘everyone’s a winner’ bargain. Immediate spending of those savings at the point of retirement clearly is not fulfilling the burden-removing side of the equation and therefore it is difficult to see why the taxpayer should continue to forgo the services or tax-cuts that could be provided by the monies currently used to subsidise pensions.
The main proposal floated in the second half of 2015 was that the Treasury would move from giving tax exemption at the point of contribution to giving tax exemption at the point of drawdown, making a pension identical in its tax-efficiency to an Individual Savings Account. The push to move pensions in this direction came from those who kept pointing out that the ISA was far more popular than the pension.
This argument ignored the fact that saving in an ISA is more acceptable to most people than saving in pensions, not because of its manner of tax efficiency but because they are more afraid of what might happen in the next two years than what might happen 30 years down the road. Therefore the ability to withdraw the money quickly in the event of a crisis is a huge factor for those who have little income to spare for saving. Giving pension’s an ISA-style taxation method is not likely to increase the number choosing to invest in pensions.
In this context, the position of auto-enrolment is brought into question. Just at the very point where the bulk of small employers are arriving at their staging dates and starting to go through the arduous process of bringing their workforce into the scheme, the whole policy of saving for retirement is being undermined. After all, the only reason we are supposedly going through this process is because too many people were not saving for their old-age and the burden on the shrinking workforce of the future was forecast to be too great. If even the idea of a pension is abandoned, by making it no different from an ISA, it will disincentivise pension savings in a big way. After all, while a lump sum at retirement is nice, it may not be nice enough to make people deprive themselves of spending today in order to have money to spend in the future.
Anyway, it makes more sense to save in an actual ISA, thereby getting all the tax benefits whilst still retaining access to the money.
There are now rumours that, as a half-way house, the budget will standardise the tax-relief at a single rate and make it an actual contribution, ensuring that non-taxpayers can benefit. While welcome, this does nothing to make the whole policy more coherent.
It’s time for the government to slow down the rush to reform in the area of pensions. They need to clarify what the aim of government pension policy is. If they are truly worried about the ability of future taxpayers to support ageing generations, then the policy should be driven both towards making workers save and making them use those savings to provide for themselves in retirement. This would require ring-fenced savings that are tax-incentivised and legally protected from raids by future governments in need of cash quickly.
On the other hand, if the government is going to take a laisse-faire attitude towards spending the money, then they should relax the auto-enrolment pressures and reduce the burden on employers particularly the smaller ones. Either way, this disjointed approach is likely to end up pleasing no-one and achieving nothing.
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