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Pensions Tax Relief

PensionsThe June Budget announced how the government will continue with plans to raise revenue by restricting pensions tax relief. However, after listening to the concerns of employers and the pensions industry, the government is now considering an alternative approach involving the reform of existing allowances. More notably, the approach adopted in Finance Act 2010 (April) is believed to have unwelcome consequences for pension saving, bring significant complexity to the tax system, and damage UK business and competitiveness.

For this reason, HM Treasury and HM Revenue & Customs published a consultation document called “Restriction of pensions tax relief: a discussion document on the alternative approach” The document sets out what the detail of this policy would be and the policy and design issues upon which further views are sought.

Some of the nation’s highest earners are already feeling the pinch, as the introduction of the additional 50% tax rate liability comes into force. For many, the big shock is still to come, when a tax charge will be levied and collected through their Self Assessment by the end January 2012. Additional Labour Government proposals also plan to target high earners  - in relation to Child Care Voucher exemptions (final detail of how this is to work have yet to be revealed), and the promise of restricting Pension Contribution Tax Relief to Basic Rate Tax.

Generous tax relief is available through payroll to encourage pension savings, and to enable individuals to take responsibility for their own retirement planning. However, reform of tax relief on pension contributions is an integral part of the government's deficit reduction programme. “The government will balance its key objectives of fairness, simplicity and long-term sustainability”. The new regime is to be introduced in April 2011!

More proposed changes:

£30,000 to £45,000 threshold

Since 2006, there have been restrictions on the amounts that can be set aside for pension savings that will receive tax relief (this has been set at £255,000). The government is now anxious to raise at least some revenue through restricting pension’s tax relief - which has already been implemented in the public sector. Provisional analysis indicates that this restriction should be set so that tax relief is only offered on the first £30,000 to £45,000 of pension contribution.

The 40% cap & Defined Contribution Schemes

It has also been suggested that pension tax relief could be capped at 40% - thus further reducing the amount of tax relief available to additional (50%) tax rate payers. However, this would potentially complicate the tax calculation. An approach of restricting tax relief through existing allowances would impact the highest pension savers (the high earners). Very few moderate income individuals can save at this level.

The expectation is for employers to amend their contribution rules in their Defined Contribution Schemes (from April 2011) to ensure that contributions do not exceed the limits to be applied. It is possible that some members would still want to contribute more, and where this occurs individuals would be required to pay a charge to recover the excess relief. The restriction on Defined Benefit Schemes (Salary Related) is less easily controlled by the individual and involves complex scheme calculations.

So what is the impact on payroll?

The original government proposals could have been substantial with requirements for mechanisms that potentially restricted pension relief to 20%. The revised position taken by the new government is a little different. Initially, it can be viewed that there is little impact on payroll. Payroll would still operate and provide tax relief through the “Net Pay Arrangement” (a term which still causes significant misunderstanding).

Where the employee’s annual allowance is exceeded, they, as an individual, are required to include this on their self assessment tax return. However, in doing so, they are liable to a tax charge to recover any excess tax relief given with payment due by 31 January of the following year. So the first payments for any recovery would take place by 31st January 2012, the same time as any underpayment of additional rate tax would also have to be paid by our highest earners.

The government are of the view that the “Self Assessment system still offers the best route for reporting, paying and collecting any ...charges that arise”. A number of high value pension contributors may not currently fall into the Self Assessment regime. However, from April 2011, they will. Equally, consideration is being given to require pension schemes to also report to HMRC where individuals exceed a set limit.

Simon Parsons
  • 1st September 2010
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