Last week, the Chancellor delivered his summer Budget and announced some key items which have the potential to significantly affect pensions savings in the UK. With his announcement on the change to the tax relief afforded to high earners and the publication of a consultation which could result in far-reaching consequences for the way in which tax relief on pensions is applied generally, the Chancellor has again put pensions at the forefront of the Government's plans to help reduce the UK's deficit.
Pensions Tapered Annual Allowance
The Chancellor has announced the introduction of what is being termed the "tapered annual allowance". This represents a cut to the tax relief afforded to high earners (i.e. those with incomes over £150,000) and is to come into effect from 6 April 2016.
The current annual limit which an individual can receive tax relief on is set at £40,000. For the tax year beginning 6 April 2016, those with an income of more than £150,000 will have their annual allowance reduced. The reduction will be applied in such a way that for every £2 of income an individual has over £150,000, their annual allowance will be reduced by £1.
The maximum reduction that can be applied by way of the tapered annual allowance is £30,000, meaning that anyone with an adjusted income of over £210,000 will have an annual allowance of just £10,000.
The reference to adjusted income relates to the way in which an individual's income is determined for the purposes of the tapered annual allowance. To calculate this, an individual's income will include the value of any pensions savings (this is to ensure that an individual cannot avoid the new restriction through the operation of arrangements such as salary sacrifice).
Where an individual has a threshold income of £110,000 or less, they will not be subject to the new restriction (regardless of pension contributions or other adjustments to their income).
Individuals will still be able to use any unused annual allowance in the previous three years, but where the annual allowance is reduced by the taper, the carry forward will only be the balance of the tapered amount.
The Chancellor confirmed that the introduction of the tapered annual allowance is being used to fund the increase in the threshold for inheritance tax.
Consultation on Tax Relief
Together with the changes to the tax relief for high earners, the Chancellor published a consultation on possible changes to the way tax relief is applied generally to pensions. This is contained in a short paper entitled "Strengthening the incentive to save: A consultation on pensions tax relief".
Whilst the paper is short, it does provide for interesting reading. It points out that the pensions landscape has changed dramatically over recent years and attributes this principally to the decline in occupational defined benefit schemes and the improvement of life expectancy. With this changed landscape, the Government highlights that individuals will need to save more in order to meet their aspirations in retirement.
The Government's key message is that individuals must be incentivised to save for their own retirement and that the correct tax system should be in place which supports individuals to take responsibility for making sufficient contributions to meet their expectations. A change to the current system is being considered by the Government to ensure that individuals are supported to make those savings for their retirement.
The paper explains the current system as being characterised as "Exempt – Exempt – Taxed" in the way in which tax is applied to retirement savings and points out that by structuring tax relief in this way, the Government forewent nearly £50 billion in 2013-14 in tax revenue.
The Government recognises that the current system may be the best for encouraging people to save for their retirement. It wants, however, to explore options for reforming the tax system to strengthen the incentive to save. If any reform is to be made, the Government considers that it should be "simple and transparent", that it should allow for individuals to take "personal responsibility", that it should "build on the early success of automatic enrolment" and that it should be "sustainable".
One suggested reform noted in the paper is to change the current system to a "Taxed – Exempt – Exempt" regime. The paper makes clear, however, that the Government is conscious that the consensus from the consultation may be that the current system is the best way for encouraging pension saving. The paper is fairly light on detailed proposals and places the onus on respondents to make a case for the current system or to suggest a different method for achieving the Government's stated goal.
The paper contains a number of questions to which the Government welcomes responses. The consultation will last until 30 September.
Additional Changes in Scotland?
If the above was not enough to contend with, the treatment of pensions tax relief in Scotland may change as well if the new Scottish Rate of Income Tax (SRIT) in April 2016 is devolved through the Scotland Bill. The Command Paper in January this year noted that:
"Consistent with the approach taken with SRIT, the UK Government will need to work closely with stakeholders on the detailed implementation of income tax devolution in other areas, for example the operation of both pensions tax relief and Gift Aid. The draft clauses include a power to make these changes in secondary legislation, which will be brought forward in due course to set out the detailed mechanics for this."
Disclaimer
The material contained in this article is of the nature of general comment only and does not give advice on any particular matter. Recipients should not act on the basis of the information in this e-update without taking appropriate professional advice upon their own particular circumstances.
