It is not news that purchasing an annuity with your pension fund is not compulsory. It is not news that people are living longer and having to work longer. It is not news that the future is uncertain and that asset values are volatile.
It is also not news that pension tax reliefs are expensive to the Government, and the amount you can put in with such relief is getting lower for high-income individuals (and probably a much wider group in the not too distant future). It is not news that the amount you can hold in your pension without suffering a tax penalty on withdrawal above the lifetime allowance is shrinking.
While we are all well aware of the above points individually, it is when you consider these contributions to the “not news” picture as a whole that you fully appreciate how these new realities have completely changed what is needed in effective financial planning. In particular:
- It is essential to consider all assets together when considering effective accumulation and drawdown.
- It is essential to consider the impact of tax on strategies to be adopted before they are actually adopted.
- It is essential (especially for older clients) to consider the impact of drawdown strategies on the likelihood of leaving a legacy, if that is thought to be important.
- It is essential for any individual with significant value assets (financial and otherwise) and/or the ability to work and generate revenue to seek regular advice on where to put money and where to take it from, so as to have the greatest chance of achieving their financial objectives. Never before has the need for informed advice been so acute and real – and that is not news either.
Against these “not news” realities, which will largely continue to be relevant, we are going to see some change. The 2016 Budget is approaching and we can expect the Chancellor to be looking hard at taxation to see what changes could be introduced.
Perhaps the most worrying factor now that the current basis of relief looks set to be preserved is that more than 70 per cent of it is thought to be received by higher and additional rate taxpayers. There is a view they would, largely, save anyway. If the purpose is to encourage greater saving across the board then one might question whether the current basis is doing its job, given that average annual pensions savings per member of the working population is under £1,000.
Reform may not now be imminent, but that does not mean it is off the table completely in the longer term. So what system would better achieve the objective of strengthening the incentive to save while being sustainable for the Treasury?
The two systems most discussed are a flat-rate one and an Isa-style taxed-exempt-exempt one, the latter of which is favoured by the Centre for Policy Studies. For both systems, a transition to a basis of incentivisation founded on the “matching” of individual or employer contributions with a government “bonus” or “redistribution incentive” in “real money” seems likely.
As for sustainability, a TEE system, even with an incentive, would have undoubtedly generated savings for the Treasury – about £10bn per year, according to some.
Essentially, this system brings forward taxation at the cost of taxation receipts in the future. TEE would, of course, bring complications in relation to how to treat existing schemes set up on the exempt-exempt-taxed basis.
A flat rate relief at 25 per cent would have brought a £6bn saving to the Treasury and a 30 per cent flat rate would, it seems, have been neutral. To counter the cost saving generated by the reduction of relief for higher and additional rate taxpayers there would be an increase in the cost of relief for basic rate taxpayers, and an increase in the cost of relief due to workplace pensions and automatic enrolment.
Tony Wickenden is joint managing director at Technical Connection