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Outside Edge

Rumour has it that one of the key areas of consideration in the Inland Revenue review of pensions is to impose tax on lump sums at retirement. We have, of course, heard this before. The introduction of the earnings&#39 cap meant an ultimate ceiling on the amount of tax free cash from occupational pension schemes for some members. But the tinkering was no big deal.

Taxing lump sums at retirement is, however, a big deal. This Government already has a record of introducing taxation on pension funds. What they have done so far is a stealth tax. There will be nothing stealthy about tax of lump sums at retirement.

The introduction of Gordon Brown&#39s stealth tax on pension funds has largely gone unreported. Perhaps this is because it is difficult for the consumer to understand, and difficult for the financial journalist to write about. Let us be clear about this. Gordon Brown robs pension funds to the tune of £5bn each year with hardly a word of protest. There is a savings gap of £27bn in the UK today, it does not take a genius to work out how to reduce it by £5bn.

We need to encourage people to save for retirement. One way of doing this is to provide tax breaks. Taxing lump sums at retirement removes a tax break. Logically, therefore, it removes an incentive to save through approved pension arrangements. This strikes me as contradictory. We have a savings gap but seek to remove an incentive to close the gap Perhaps there is a trade-off available here or a series of trade-offs. I wonder if what will come out of this review will be a combination of changes where tax relief is replaced by compulsion.

If the first step is compulsion, then the second will be removal of relief. If it is compulsory to save for a retirement income over that funded by National Insurance contributions then surely tax incentives are no longer needed?

If it is a legal requirement that. say, 10 per cent of an employee&#39s pay goes into a retirement fund, why would any government want to give away tax relief? Compulsion does away with the need for incentive. But if it is compulsory to save for retirement and those savings attract no tax relief, is is then logical to tax the benefits at the other end?

A recent NAPF survey suggested that 60 per cent of consumers were in favour of compulsion. It could be the case that, like many political issues, we express support for a concept but are less keen about it when concept becomes reality.

Back to the possibility of tax of lump sums. If we have compulsion, there is no need for tax breaks and no tax breaks should lead to a benign tax system for pension fund output.

If tax relief is maintained and Gordon Brown stops robbing pension funds, then, logically, tax-free cash might be reconsidered. While we are at it let us look again at the compulsory purchase of annuities.

As long as politicians think that annuities favour the poor, no change to the compulsory purchase of annuities will take place. But why have this compulsion to purchase an annuity if it is compulsory to contribute?

The answer, I guess, is that the state believes people are stupid. The reality is that people do not squander capital that they have set aside for their retirement in the hope that the state will step in to provide for them. Those who do not save do not because they cannot afford to save. They have no spare money. For these people, tax incentives are irrelevant. For those who can afford to save, tax incentives are important.

There is a massive contradiction in the UK savings market at present. Everyone accepts that there is a huge savings gap. What we need to do is to encourage people to save. You do not encourage people by taking away an incentive. That has the opposite effect.

It would be truly excellent if the Revenue review of pension provision were to suggest that tax relief should stay, tax-free cash should stay and that the Chancellor should remove his tax on pension fund growth.

What the Revenue will do is to produce a review that will be supportive of the Chancellor&#39s desire to reduce further the tax incentives on approved pension arrangements. The scene has been set within the Sandler review with his outrageous claims that tax incentives do not work. Expect this to be repeated by the Revenue review.

Nick Bamford is managing director of informed Choice



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