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David Heaton
Baker Tilly
Employee Benefits Partner

Pensions: are we being softened up? HMRC release did not tell the whole story

Posted: 7th March 2012

Speculation was rife before last week that higher rate tax relief on pension contributions might be in danger in the Budget. 

With pre-Budget purdah preventing ministers and senior Treasury people from saying anything, how significant was it that HMRC last week published a note telling us all that the cost of tax relief on pensions had increased by 87% over the last ten years, to £33bn last year?

The Exchequer now gives away (or gives back, depending on your perspective) £6.6bn to individuals who make contributions, although we weren’t told how much of that goes to 40% and 50% taxpayers. 

Employer contributions are liable for neither income tax nor NICs, which therefore result in reliefs of £19.4bn and £13bn respectively, and pension funds escape tax of £6.8bn on their investment income and gains.

Over the last ten years, the income tax take has increased by only 44% overall, while the NIC take has gone up by 62%, so an 87% increase in tax relief for pensions looks significantly out of line, and obviously in need of correction. Or it would, if the release had told the whole story …

There are now around two million more people working than there were ten years ago, but there are also more pensioners: the total spend on the state pension has increased in the same period by 90%. Pensions are therefore becoming more important, in both macro- and micro-economic terms, and the greying of the population has seen governments try to persuade or coerce taxpayers into saving more into their private pensions so that they are not reliant on the state in their old age. 

One of the NEST scheme’s key aims is to get people on low earnings, heading towards a low retirement pension, to buy their own means-tested old age benefits in advance by saving throughout their working life.  But the idea of reducing tax relief for pension contributions made by 40% and 50% taxpayers is different: these are generally people who will not be claiming pension credit in their old age. How different?

The part of the picture missing from last week’s incomplete analysis is the effect of tax policies.  There are now just over four million people (13.3% of the 29.9 million taxpayers) in the 40% and 50% bands, although this will rise in April when the 40% tax threshold is frozen again at £42,475.  Ten years ago, there were only three million (10.5% of 28.6m taxpayers) in the 40% band. 

The actions of Messrs Brown, Darling and Osborne, dragging more people into the 40% band, and creating a 50% band, have collectively increased the ‘cost’ of tax relief for higher rate taxpayers simply because they’ve increased the population by 33%.

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