It is the time of year again when Budget predictions start to emerge. Every day there appears to be a different opinion on what will be waiting inside the chancellor’s red box.
I am not a fan of most of these prospective changes, as I feel the pensions industry has enough to deal with at present. That said, if there were to be a single change I could ask for it would be the abolition of the tapered annual allowance – but I won’t hold my breath.
Flat-rate tax relief
I have a lot of concerns over flat-rate tax relief, partly because I believe the current system isn’t broken, and partly because of the chaos it would cause. Given there would need to be more checks brought in to ensure the rules weren’t circumvented, any alteration wouldn’t be a simple case of changing the level of tax relief.
Take employer pension contributions, for example. These contributions are really just another payment to the employee, even though the money goes straight into their pension. The employee is receiving full marginal-rate tax relief on this payment because it isn’t a taxed benefit.
Therefore, in the event of new rules, employers could change contracts for employees to pay them a higher pension contribution and a lower salary. This isn’t salary sacrifice, because the employee would never have been entitled to the payment as salary, but the outcome is the same.
Higher-rate taxpayers would still be benefiting from higher-rate relief, even if the rules only offered personal contributions at a lower flat rate. This would mean that employer contributions would need to be monitored and the employee taxed accordingly to ensure no one is getting a different rate of tax relief into their pension. This could be done, but it would add another layer of complexity to the process and I am not sure it has been fully considered.
The same issues apply for salary sacrifice – I could see that salary sacrifice for pension contributions would need to be banned if flat-rate tax relief were to be brought in.
Defined benefit (DB) schemes face their own challenges. Many are underfunded and tax changes may see less funds going into the scheme from members, depending on the spread of taxpayers that are members. This could mean the employer would need to make up the difference to keep the scheme solvent.
In DB schemes, employer contributions are calculated based on the needs of the scheme. This means that contributions are not attributable to individual members in the same way as money purchase pension scheme contributions are. As a result, trying to ensure that higher-rate taxpayers aren’t getting more than their fair share would be impossible. DB schemes would therefore need to be excluded from these rules or have another test applied. We already have significant differences in the way money purchase and final salary schemes are treated, and this would just increase that discrepancy.