Chancellor George Osborne’s decision to ditch a radical overhaul of pension taxation at the Budget could see him pursue alternative “nuclear” reform options to raise cash, experts warn.
Since July, the Treasury has been consulting on a move to either a flat rate of tax relief or a more dramatic change to tax pension contributions in line with current systems for Isas.
It is understood last week Osborne went as far as sending the flat-rate and pension Isa plans to the Office for Budget Responsibility to be costed before the Treasury issued briefings at the weekend that the plans had been dropped.
So what was behind the dramatic halt to preparations for reform? And where will the Chancellor turn on 16 March as he seeks to raise much needed funds?
The Daily Mail effect
Cicero executive director Iain Anderson points to “the Daily Mail effect” as critical to the Treasury’s decision to park radical reform.
He says: “The headline that Osborne wanted was about a massive boost for Middle Britain, with the tax advantages of higher earners extended across the piece, but concern has been increasing for a while that this wouldn’t be the headline Osborne would get.
“While the decision might have come late last week, nervousness around the potential changes has been gathering since the early part of February, and it’s been ramped up as a result of the EU referendum.
“Politically and mentally, there is a commitment and an excitement around real fundamental reform, but the context of the referendum and the management of Government right now has made it harder.”
MRM head of public affairs Havard Hughes says the move shows concern around the perception of the Government among older voters in particular.
He says: “Older people are more likely to vote, and the research suggests older voters are much less supportive of the EU generally than the younger voters are.
“The Chancellor realises if you aggravate those voters, then they are not going to back you when it comes to the referendum.
“This was all about a perceived risk that change could make people anti-Government in the referendum.”
However, Hughes adds the Chancellor’s desire to move on from the events of the last week increases the chances of a Budget surprise.
“Osborne will want to pull something out of his hat to move on from this point, so a lot will depend on how he manages to discuss it in the Budget, and what surprises he can bring through.”
The rabbit in the hat
Earlier this month the Chancellor told the House of Commons a reduction in the top rate of income tax had raised substantial sums for the Exchequer.
He said: “Numbers from HM Revenue & Customs, which for the first time show the income tax data for 2013/14 when the 50p rate was reduced to 45p, show there was an £8bn increase in revenues from additional-rate taxpayers.
“This completely defies the predictions and shows what we have are lower, competitive taxes that are paid by all.”
Hargreaves Lansdown head of retirement policy Tom McPhail says the Chancellor’s comments make a direct pledge to move to a 40p rate more likely, as it will be seen as a “win-win” for both savers and Osborne’s efforts to reduce the deficit. However, he adds the imm-
ediate need for progress means Osborne may also be minded to introduce a National Insurance charge on employers’ pension contributions.
“If the tax relief debate is on hold, Osborne still needs to raise that money. The only really rewarding target available to him appears to be NICs, and he could effectively says that NI is now payable on employer contributions.
“That would be a nuclear option. It would raise a lot of money, and lots of businesses would be pretty unhappy. But I don’t think Osborne has any options that are cost-free.”
AJ Bell chief executive Andy Bell says the Chancellor may seek to extend the Conservatives’ controversial annual allowance taper to lower earners.
Under existing plans, those with adjusted income over £150,000 will see their annual allowance reduce from £40,000 to £10,000 for those earning over £210,000 from 6 April.
Bell warns Osborne could lower the point at which tapering begins to either £125,000 or even £100,000, describing such a move as a “retrograde step”.
He says: “If I was desperately looking to save some money on tax relief, I would go after that.
“Higher-rate tax relief would still be available, but it would limit some of that perceived generosity. Plus it could have effect from midnight on 5 April and it will limit people planning to avoid it.”
Similarly, he notes current carry forward rules allow the annual allowance to be calculated over a maximum of three years, meaning savers can make a substantial contribution in one year without breaching limits. He says: “They could reduce that down to two years instead of three. That will start hurting self-employed people who get to look at their earnings some time after the year end.”
When, not if
Nonetheless, few suggest the Chancellor will not return to his ambitions to reform the broader system of tax relief, perhaps as soon as the Autumn Statement.
Hughes says: “These changes are probably things they want to introduce to the market, and still plan to introduce because the Chancellor is desperate to make some progress on eliminating the deficit.
“What you have here is a situation where for political reasons the changes are now on pause, but it’s a question of when, not if.”
Anderson adds the Chancellor is likely to make this clear from the dispatch box next week.
He says: “We may end up with a line to the effect of ‘we have had lots of responses but we are going to continue to look at reform’. As long as Osborne remains Chancellor, I don’t think this will go away.”
Jonothan McColgan, director, Combined Financial Strategies
We would all be happy for a bit of respite on pensions at the Budget, so anything that stops the Chancellor from making silly short-term decisions has to be a good thing.
David Hearne, wealth management adviser, Satis Asset Management
I would like to see the Chancellor scrap the reduction of the personal allowance which takes place above £100,000 and sees people paying up to a 60 per cent tax rate. At the moment we have a lot of people who are deliberately generating £99,000 of income to avoid that band, but you could simplify that and generate more revenue.
This is not the first time the Conservatives have been forced into an embarrassing U-turn by their insolent backbenchers.
And it comes because pension tax relief is not the only game in town. Indeed, for many MPs, it is a lesser concern.
David Cameron has been continually battered in his efforts to secure a renegotiated relationship with the EU.
First the Prime Minister conceded on the wording on the referendum question, switching from a yes/no question to leave/remain. And then he backed down over timing, guaranteeing four months of notice to ensure the neutrality of the political machine in the immediate time around the vote.
Since then, it’s become clear Cameron and Osborne have been yet further surprised by the scale of the opposition on Europe.
So while backbenchers are uneasy with plans to cut tax relief to higher earners, the real goal for Osborne and Cameron is winning some good favour before 23 June and shoring up votes for the Government this side of the referendum.
Is it any wonder that Cameron has reportedly been warning his Chancellor not to rock the boat in the Budget, by far and away the biggest political event before the vote?
Of course, the question remains whether this pause on pension reform will be enough to win over a growing portion of “Outer” MPs, especially those who question the decision to block Brexit campaigners from using Government resources.
And the Chancellor also has a habit of pulling the rug from underneath us in each Budget.
So there may be more to come next week from a man whose political ambitions extend to more than just Number 11 Downing Street.
Secure just enough backbench goodwill and Osborne could soothe some of the anger over Brexit, while also improving his own long-term prospects.
The alternative? As one Westminster insider told me this week: “If the Outs win, we could easily see Boris Johnson as Prime Minister by Christmas.”
Marks Sands is politics reporter at Money Marketing