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Gregg McClymont: Taper tantrums must drive long term review of tax relief

It would be easy to dismiss the ongoing NHS pensions crisis as a dispute that affects only a few well-paid doctors and judges. But this is about tax relief, which always gets complicated, very quickly.

The tapered annual allowance, introduced in April 2016, has had a slow-burn effect on the NHS pension scheme, now ignited into a blazing row. In recent months some senior doctors have received large, unexpected tax bills and reduced their working hours as a result, taking their earnings below the level at which the AA taper affects them.

The result has been a PR own-goal for the government. There have been serious consequences for patients, including cancelled operations and longer waiting times. This is of such political significance that it became a live issue during the race to Downing Street, with contender Boris Johnson promising to “fix” the issues.

The problem is there is no quick fix without knock-on effects. In particular, why should those on high incomes receive further tax relief benefits in a system where it is estimated more than half of all pensions tax relief already goes to the 3.85 million higher-rate taxpayers, and 13 per cent to the 438,000 additional-rate taxpayers? From this perspective, more than 26 million basic-rate taxpayers are left to fight over crumbs from the table.

The official cost to the Exchequer because of pensions tax relief was £38.4bn in 2017-18, although this should be offset by income received from tax on pensions in payment to give a figure of £20bn. When NI relief is included, the cost to the Exchequer of foregone revenue is estimated at £36.3bn in 2017-18.

Future reform of tax relief is desirable as it is surely unfair that 65 per cent of tax relief goes to a minority of higher earners. But any reform must be based on a full review of the taxation of pensions. It will be critical to recognise the way the current system effectively favours public-sector DB scheme members even as almost all private-sector DB schemes have closed to future accrual, and the future of private-sector pension saving is overwhelmingly DC. This is because paying DB pensions to public-sector workers who pay higher-rate tax requires very high levels of contributions and those contributions attract the most tax relief.

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Most proposals for the reform of pensions tax relief, including the Pensions Isa floated by former chancellor George Osborne, would change the distribution of tax relief with less relief going to higher earners. More would go to lower-paid workers including those brought in to pension saving through auto-enrolment.

But, as with the NHS scheme, even moderate measures intended to curb tax relief for the highest earners may have serious undesirable side-effects. And the simple fact of redistributing tax relief away from popular and highly organised professionals with an effective trade union may be politically difficult.

Effecting a systematic overhaul of pensions tax relief demands the building of a consensus on the facts – something Osborne failed to do.

Any future government will find the task of making pensions tax relief fairer takes patience, an evidence-based approach, a commitment to building consensus and no little political skill in these divided times. The prize, however, is significant – a tax relief system that fairly rewards the majority of workers.

Gregg McClymont is director of policy at The People’s Pension

Follow him on Twitter @greggmcclymont

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