OVERVIEW
The Labour Government has indicated its desire to fill a fiscal black hole and of course there is only one viable way to do this in the short term…increase taxation. They could rely on economic growth but that comes with some financial risk and significant uncertainty, i.e. the UK might grow in line with expectations and again it might not.
If we think about the taxes that could be increased, Pensions is certainly an area where there could be some focus. Pensions were taxed differently under Gordon Brown (as were ISAs) than they are now and the way Pensions have been taxed has changed a lot over the years. Pensions flexibility has given us much more choice about how and when to take any benefits (lump sum and income) and this flexibility has allowed us to pass money to the next generation in a very tax efficient way.
SO, HOW MIGHT THE NEW GOVERNMENT LOOK AT PENSIONS?
Pensions is a word used to define a variety of things. In this article I will mainly use it as a reference to the pot of money that is saved in a pension contract rather than the income being received in retirement.
One way that the new government might look at pensions is to consider how much money the Government ‘gives away’ in tax relief. Clearly the lack of tax on pension pots and contributions to pensions is a concession to encourage people to save money and be financially self-sufficient in retirement so there is less of a need to rely on government benefits.
This chart is a little complicated but the essence of it is showing how much tax the Government is missing out on by allowing tax relief. In 2022/23 this added up to nearly £49 billion.
WHO GETS THE TAX RELIEF?
It is also worth looking at who gets the tax relief when contributions are made to pensions. Clearly most of the relief is for people whose earnings are at or above the higher rate of tax (40%).
One proposed change is to equalise pension tax relief to 30% – a uniform rate of relief. The concept is that whoever adds money into a pension would effectively pay in £7 and get a credit for £10 no matter the rate of tax that they pay. This would further incentivise basic rate taxpayers who currently get relief at 20% or when they pay in £8 they are credited with £10.
As per the below chart, assuming that the ratio between higher rate and basic rate contributions stays the same this would save the Government money and according to Yahoo News the annual figure would be approximately £2.7bn in extra tax or in this case less relief.
OTHER WAYS TO COLLECT TAX
THE LIFETIME ALLOWANCE (LTA)
This was the name for the maximum amount of money that could be drawn from pensions during your lifetime at normal rates of tax. Once drawings exceeded £1,073,100 then most likely a rate of 55% would apply. The Conservative Government removed this cap on the 6th April 2023.
The Labour party immediately announced that if elected they would re-introduce the pension Lifetime Allowance. The amount of tax that was collected where people were taking money in excess of the LTA in 2017/18 was £185 million and by 2022/23 this had risen to £342 million. (source: HMRC). Clearly this does not fill the £20 billion black hole but it is still a significant sum.
However, this was not included in their manifesto so this seems now to be much less of a priority than it was at the time.
STATE PENSIONS
There is clearly a lot of speculation at the moment ahead of the Autumn Statement about what could be done to raise additional tax. Here are some of the items being discussed:
- State pensions are forecast to cost the UK taxpayer £125bn in 2023/24. If the age at which adults received their state pension was increased by just one year this could save the Treasury £8-9bn (source: The Guardian).
- There is also some talk of means testing the State Pension.
- The State Pension age could increase to 71.
All of the above must be on the table but it is unlikely that these ideas will be at the forefront of any changes being considered by the Chancelor.
INHERITANCE TAX
There has also been some comment in the press about including pensions in an inheritance tax calculation.
Not included in these figures already illustrated is the amount of inheritance tax (IHT) that could be collected if pension pots were deemed to be part of the estate. At the moment pension pots are exempt from IHT. Aggregating them to the estate could be an easy way to boost tax receipts.
AVERAGE RETIREMENT SAVINGS IN THE UK
People over 65 have, on average, total wealth of £730,900 of which £113,600 is in financial wealth such as cash, ISAs, Stocks, Bonds, Funds, etc. For the same age group the average private pension pot is £275,600.
For the 10% of people who would be considered the wealthiest in the UK the chart below shows how much private pension wealth they have and how this impacts on their total wealth.
TAXING PENSIONS
Another way is to simply add a tax to all pensions (much like Gordon brown did). There are about 53m adults in the UK and 18.4% have no pension provision at all (9.7m). The average pot is currently £35,357 (source: finder.com) and total private pension wealth in Great Britain was £6.1 trillion to March 2018 (source ONS).
A small new tax on some very large sums of money could very easily provide some significant revenue and for the lifetime of the parliament.
LARGEST PENSION FUNDS IN THE UK
CONCLUSION
As you can see Pensions is a very broad subject and there is the potential for a lot of change. We have to wait and see what emerges and what the new approach will be.
At the moment, adding money to a pension contract remains the best way to save for the future, the best way to preserve capital for the next generation (if you don’t need to spend that money yourself) and pensions have the most tax breaks – more than an ISA. The tax reliefs are cumulatively more beneficial than any other form of saving and it remains our first product recommendation when aiming to increase your capital over time.
If you would like to discuss any issues in this article, please contact NBL.
