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Steve Bee: Give savers the pension system they deserve

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People often say their house is their pension. It is not. It is their house. More recently, some have been suggesting Isas and pensions are more or less the same thing. They are not. Isas are Isas and pensions are pensions.

When we save into a pension we get a specific deal from the Government: we only pay income tax once on the money we put aside. On the face of it, that is not really anything to write home about, is it? I mean, only paying income tax once on your earnings is something you would take for a given. So, in doing the right thing and preparing for the future, you are given the guarantee you will not be taxed twice.

As it stands, when the Government says it will only tax you once, the only credible way to do that is to tax the income when it is eventually drawn down from the pension pot.

Of course, there is another way to do it. You could suggest that pension savings be made from taxed income but with a guarantee they will pay no tax when they finally come to draw it down. Anyone relying on such a guarantee, however, would be seriously stupid in my view.

Nobody could realistically expect a future government in, say, 40 or 50 years’ time to feel bound by any guarantee given today not to tax pensions as income. The chances of being taxed twice would be extremely high, which would surely be too big a risk to run and, potentially, too high a price to pay for saving. The understandable reaction to the implementation of such a system would be not to save any more into a pension than you are forced to do by law.

The only way we can be sure that we will only be taxed once on our income is if income tax is only levied when we finally draw our deferred pension savings in the future. This sensible basis underpins the majority of the pension systems in the world.

It does give rise to the notion people saving in such a pension system get tax-relief for doing so but they do not really: they simply get a real guarantee of only being taxed once.

The two genuine advantages of saving in our current pension system are, first, that savers get the power of compound interest on the gross investment for what could be decades and, second, that a quarter of the pension fund may be taken as a tax-free cash sum when they are older. They are the real incentives for saving for a pension.

And it is right people saving for a pension should be offered incentives. People who save for the future are not only doing right by themselves and their families but doing right by the rest of us as well. They deserve a pension system that does right by them: a system that does not come with the risk of being taxed twice on the same money.

Steve Bee is director at JargonFreeBenefits

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Comments

There are 6 comments at the moment, we would lover to hear your opinion too.

  1. Simple truth, excellently put.

  2. I thought that I was the only one thinking along those lines, down to my age and an excessive part of my career spent in pensions. Will sense prevail over political short-termism, I wonder?

  3. Could not agree with you more. Reforms are being driven by a desire to reduce the deficit.

  4. Great article Steve.I am seriously concerned about this removing tax relief will kill off pension savings overnight no doubt about it.

  5. headbelowthe parapet 31st July 2015 at 4:29 pm

    Gideon appears to think that people are confused by the concept of deferring tax on earned income until retirement by using a pension contract and concludes that he should tax it as normal income and reform the pension framework so it’s an ISA…(I think he just wants to tax workers on their pension contributions now and retirees on their pension receipts now, because he wants to be the chancellor who cleared the deficit – but then I’m a bit of a cynic!)

  6. When I talk to clients about ISAs I tell them that “under current rules the proceeds (capital and income) are tax free”. Steve makes a very good point and I wonder if ISA savers might also be considered “seriously stupid” in that a future government could change the rules and make ISA proceeds taxable? Sort of worrying really

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