One of my New Year’s resolutions was to restart a lobby for pensions tax simplification.
I saw the open letter from AJ Bell chief executive Andy Bell to the Treasury financial secretary making seven suggestions on simplifying pension tax rules. Andy always makes very sensible proposals but on this occasion I don’t believe he’s gone far enough.
The reality is billions of pounds are being wasted each year in administering a tax regime for pensions which is far removed from that envisaged when pensions were “simplified” in 2006.
We need to introduce a completely new and radically simplified tax framework which puts encouraging savings at the top of its agenda rather than being driven by protecting existing pensions savings and associated tax revenues.
The proposals below are my hastily constructed ideas to create an attractive pensions tax regime to encourage all to save for later life. They have not been costed and I have deliberately not allowed the impact on existing pensions savings to influence my thinking.
I am sure there are several flaws but I genuinely believe something along these lines might actually work.
There are two parts to my proposals:
Later life super saver
Tax relief on contributions as now at the highest marginal rate until accumulated savings exceed a threshold – I suggest £250,000 but this needs validating. The maximum annual contribution should be £25,000 regardless of earnings. These limits apply to all “later life savings” – where the savings are “invested” via a defined benefit scheme they will need to be simply converted into a DC equivalent.
On “vesting” as now up to 25 per cent of the fund can be taken in cash tax free with the option to convert the remaining fund either into an annuity or use a new simple drawdown with an annual maximum income limit based solely on age. Andy Bell’s simple model of 5 per cent for those in the 50s, 6 per cent in 60s etc. would be a good starting point.
There would be a single flat tax rate on death at any time at the same rate as the basic rate of income tax.
There would be early life cash access of up to 25 per cent of the fund. Underlying investments would be limited to a simplified “permitted list” – broadly investment funds and quoted shares.
Later life extra saver
This would only be eligible to savers once they have accumulated a super saver fund of £250,000. Tax relief would be granted at basic rate on all contributions until the extra saver fund reached £1.5m. The maximum annual input would be £50,000 regardless of earnings. The limits would apply to all “later life” savings including via DB schemes as with “super saver” above.
On vesting cash of up to 15 per cent of the “extra saver” fund could be taken tax free with the option to convert the remaining fund into an annuity or to use “flexible drawdown” – with no restrictions on the timing or amounts of drawings.
All income payments from the later life saver would be taxed at the basic rate of income tax. The tax rate on death would be as for the super saver. Similarly there would be early life cash access of up to 15 per cent of the fund.
The investment range allowed would be wider – the full extent to be defined but to include commercial property, gold bullion, “approved” private company shares etc.
Clearly with the introduction of a new tax regime there is the danger of creating yet another layer of “protected” benefits/funds in the way that protection regimes have mushroomed since the last attempt at pensions simplification in 2006.
It is imperative that is avoided if administration savings are to be optimised. That would involve the Treasury taking some bold moves – perhaps simply ringfencing all existing entitlements.
I believe a new tax framework along these lines might just appeal to younger savers. Crucially it provides access to part of the accumulated savings at any age, it radically simplifies the drawdown regime, it has a uniform and simple tax charge on death and it still retains the basic tax relief incentivisation on contributions.
Above all if implemented with simplification as the main driver then significant cost savings should be realised which will be a further benefit. As someone once said – “the only limits are those of vision.”
John Moret is principal at MoretoSIPPs