Good news for higher earners as government delays pensions tax tweak

pension plan

Higher earners breathed a sigh of relief today as a government announcement on how to reform tax relief on pension contributions was delayed.

Earlier this year the government launched a consultation on pensions tax relief which closed on 30 September. The consultation sought to establish whether the current system of tax relief should be maintained or whether a new, more cost-effective way of incentivising retirement saving could be introduced.

Under the current system, the tax relief on pension contributions is linked to the rate of income tax you pay, effectively rebating the tax you have paid on that money. This means it costs basic rate taxpayers £80 to save £100, higher-rate taxpayers only need to pay £60 to save the same sum while additional rate payers contribute just £55.

The consultation looked at a new 'flat rate' savings incentive, which would see all savers receiving the same rate of tax relief, irrespective of how much income tax they pay. The government is also considering the introduction of a ‘pension Isa’, with limited upfront incentives but tax-free withdrawals.

A response confirming the government’s intentions was expected in the November Spending Review; however, chancellor George Osborne has now indicated that the government’s response will not be published until the 2016 Budget.

Tom McPhail, head of retirement policy at Hargreaves Lansdown, said: “The government’s decision not to respond to its consultation until next year is a reflection of the complexity of the pension tax system and the challenge in introducing any reforms. We welcome the fact that they are taking a measured approach rather than rushing at the problem.”

The delay grants higher earners – who are likely to see the level of tax relief applied to their contributions slashed – a temporary stay of execution. He added:  “This is a mixed blessing for higher earners. A quick response would have meant no change. The fact that they want more time to work on it suggests they are still pursuing fundamental reforms; I believe these are likely to lead to cuts in the tax breaks offered to higher earners.”

Jon Greer, pensions technical expert at Old Mutual Wealth, said: “This is a signal of intent from government that indicates it is seriously considering a major overhaul of pension tax relief. The Green Paper has been positioned as an open consultation, but [this] confirmation that it will form part of Budget 2016 suggests that we can expect significant reform next year.”

McPhail said that higher earners must seize the opportunity to maximise their pension contributions while the tax breaks were still available. He added: “Over the next 6 months we’re likely to see a rush of higher earners looking to make the most of the current system while they still can.”