Pensions tax relief must be overhauled, says RSA

19 April 2018

A new report from the Royal Society of Arts (RSA) is calling for an overhaul of the tax relief offered to savers paying money into a pension in order to help tackle low levels of retirement saving among the self-employed.

According to the RSA, 52% of employees will have more than £100,000 saved in private pensions, but this goes down to 33% of those who work for themselves. A quarter of self-employed workers also have no pension provision at all, compared to just 16% of employees.

Under auto-employment rules, most employees will also be automatically enrolled into a workplace pension which benefits from employer contributions. The government is looking into ways of extending this provision, but it is not currently available to the self- employed.

Although self-employed workers can set up personal pensions, without the benefit of employer contributions the incentive to do so is not as great. The RSA also says self-employed workers find it harder to pay into a pension because they typically earn a third less than their employed peers. Volatile incomes and dry spells may mean that the self-employed are wary about tying money up in pensions too.

Rather than linking tax relief to savers' personal rates of income tax, with basic-rate taxpayers getting contributions topped up by 20%, higher-rate taxpayers getting 40% and additional-rate taxpayers getting 45%, the RSA has proposed a new flat rate of 30% for all.

This effectively means it would only cost £70 to pay £100 into a pension and would see the level of tax relief given to a self-employed worker earning £15,600 a year and paying 5% into a pension jump from £195 to £335. The RSA says this would boost self-employed pension pots and encourage greater contribution rates.

The issue of tax relief on pensions contributions has been on the political agenda for some time. However, despite much debate on the need to overhal the way in which tax relief is applied, no party has been bold enough to make fundamental changes to the current system.

Industry experts, however, claim that such a significant change would be difficult to implement and would not be guaranteed to deliver the planned results.

Tom Selby, senior analyst at AJ Bell, says: “Introducing a flat-rate of pension tax relief sounds great in theory, but there would be huge practical challenges to overcome, most notably in relation to defined benefit (DB) schemes. Without an answer to the question of how a flat-rate would be applied to DB savers, any recommendation is simply hot air.

“Even if a flat-rate of tax relief could be made to work, the government would need to be absolutely confident such a reform would actually encourage more people to save and there is little evidence so far. 

“Under-saving for retirement remains arguably the biggest challenge facing society today, so any major reform to the system must only be entered into if there is a significant degree of confidence that it will result in more people putting money away for their future.

“Pragmatically, I doubt a government with a razor-thin Parliamentary majority and facing the colossal challenge posed by Brexit will have much appetite for something as controversial as this.”

Other proposals put forward by the RSA included giving self-employed people the right to carry on paying into an existing pension once they leave employment, the promotion of an income protection scheme to cover the self-employed during periods of ill health and a ‘side car’ account linked to a pension that would offer savers access to some of their money before age 55.

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