The past 14 weeks have been disastrous for pensions.
Keir Starmer and Rachel Reeves’ alarming warnings over an impending tax raid have torn to shreds the finely balanced trust that savers have been starting to build around pensions after years of government tinkering.
Britain’s largest investment platforms say savers have been taking emergency preventative action that could harm their finances in the long term – such as cashing in their pensions ahead of time or piling in more than they need to.
Raid: Pensions are too tempting a target for Chancellor Rachel Reeves (pictured) to ignore as a source of funding, experts say
And it’s no wonder given the menu of gruesome options the Chancellor could choose from to fill the £22billion hole in public finances.
Reform to pensions tax relief has finally been ruled out this week.
But pensions are too tempting for the Chancellor to ignore as a source of funding, experts say. So what are the other most likely targets in the Budget on October 30?
A cut to tax-free pension cash
The Chancellor is reportedly considering slashing tax-free pension cash, in a move that could immediately hit millions of workers.
The tax-free pension lump sum is one of the most appealing features of saving into a pension. Currently, anyone over the age of 55 (rising to 57 in 2028) can cash out the first 25 per cent of their pot up to £268,275 without incurring any tax liabilities.
Government officials have asked one of Britain’s top pension providers to assess the impact of cutting the tax-free lump sum to £100,000, according to The Telegraph.
The move could affect one in five retirees, think-tank the Institute for Fiscal Studies estimates. The tax grab could derail more than two million people’s retirement plans, as many will have earmarked the lump sum to top up their income if they take early or partial retirement. Others may be planning to pay off a mortgage with it, or planning holidays.
The IFS and Left-wing think-tank the Fabian Society have led calls for the Chancellor to slash the allowance. Cutting it to £100,000 could raise large sums, they say.
Nicholas Nesbitt, partner at accountancy firm Forvis Mazars, says this is one of the most likely changes to be made by the Chancellor.
He says: ‘The Government could easily reduce the amount of tax-free cash individuals can take from their pensions.’
Tom Selby, director of public policy at stockbroker AJ Bell, agrees that a restriction of tax-free pension cash would be straightforward enough to implement. However, he says it would not raise meaningful amounts of money for the state this year.
Pension industry veterans say that there is a good chance Ms Reeves would be forced to put protections in place for savers to safeguard money already accrued in a pension. This means the new rules may apply only to future savings, so it could take some time before the Treasury begins to see any revenue from the tax grab.
Mr Selby says: ‘This measure wouldn’t raise any money very quickly. Reeves says we have got a £22bn in-year deficit. If you were to cap tax-free cash at £100,000 the money it would raise would come in small increments over time, not in a sudden windfall. It wouldn’t be enough to put a dent in the immediate funding needs.’
Graham Crossley, an NHS pensions specialist at wealth manager Quilter, warns a cut to pension tax-free cash would have unintended consequences for public sector workers, which could result in many senior doctors and healthcare workers leaving employment.
He says: ‘A move like this could stoke fear amongst public sector workers that the Government is coming for their pensions. We could see significant numbers of senior healthcare workers bringing forward their plans to retire to avoid whatever the next attack on their pension could be.
‘There’s a risk that it could end up costing more to fix the problems this could create, such as increased waiting lists, compared to the tax take from such a move.’
Hit on workplace pensions
Leading pensions experts tell me the easiest, most lucrative – and therefore most likely – change is a new National Insurance levy on the contribution that employers pay into workers’ pensions.
Currently, employers do not pay any National Insurance on money they pay into pensions on behalf of their staff.
Think-tank the Institute for Fiscal Studies (IFS) says this rule ‘should be reformed’, adding that if employers were charged NI on pension contributions at the same rate as wages (13.8 per cent), this would raise around £17billion per year.
Mr Selby says: ‘This seems the most straightforward way to raise cash quickly if the Government wants to raise money from pensions. It wouldn’t be a surprise.’
However, Mr Selby says he would expect there to be a reduced tax rate on employer contributions, rather than the full 13.8 per cent tax charge.
This is echoed by Robert Salter, of tax firm Blick Rothenberg, who agrees it is the single most likely change.
While it would not result in a direct hit to pension savers, he warns that it could lead to employers cutting the amount they pay into their workers’ pensions, or affect future pay rises as businesses swallow the new cost.
Trade groups the Association of British Insurers (ABI) and the Reward and Employee Benefits Association (REBA) have warned the Government that this cut would leave millions of employees facing a poorer retirement.
Debi O’Donovan, co-founder and director of Reba, says: ‘Research shows that removing this relief would change employers’ behaviours to be less generous in future, to the detriment of millions of workers.’
Target: Pensions experts say the easiest, most lucrative – and therefore most likely – change is a new National Insurance levy on the contribution that employers pay into workers’ pensions
Make pensions liable for inheritance tax
Another option for the Chancellor is to make pension pots liable for inheritance tax – a change experts say could be brought in overnight.
Unlike other savings or housing, pensions do not currently form part of your estate upon death and are therefore not liable for tax.
Nicholas Nesbitt, partner of accountancy firm Forvis Mazars, says a new death tax is one of the most likely changes.
He says: ‘The taxation of pension death benefits has long felt anomalous – you get tax relief on contributions; you get tax-free investment growth and you can pass the funds on tax-free on death.
Given the level of wealth stored up in pensions, we expect that the new government may seek to tax pension funds on death moving forward.’
One option would be to say the first £100,000 of pension savings is free from inheritance tax but anything above this would trigger a 40 per cent tax bill.
Think tank the IFS has been urging the Government to make this reform, which it says could raise several hundred million pounds a year in the short term, rising quickly thereafter – potentially to as much as £2billion a year.
Raid on tax relief unlikely
Fears the Chancellor would mount a raid on pension tax relief have this week been quashed, as Labour is expected to abandon these plans.
Rumours had been running wild that Ms Reeves would cut the amount of tax relief those earning £50,000 or more per year receive on any money they save into a pension. It would have seen tax relief, which is currently paid at your marginal income tax rate, changed to a single flat rate – likely between 20 pc and 30 pc.
But the Chancellor is understood to have called off her planned pension tax raid after being warned that it would impact up to a million teachers, nurses and other public sector workers.
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