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In the Budget the Chancellor said that he was looking for radical reform of the tax treatment of pensions. We agree, we do need radical thinking. As HM Treasury has outlined in 2013-14, almost £50bn of tax was "forwent" paying for pensions tax relief, of which over £30bn goes to higher and additional rate tax payers. This is staggeringly regressive and expensive. That’s £30bn that could be used to pay down the deficit. Alternatively it could be used in more socially useful ways such as broadening out auto-enrolment to include provision for customers to be protected if they become ill, die or get made redundant. Furthermore it could be used to increase the National Insurance threshold. All three would be fairer, more productive and much cheaper than the existing regressive system.
But as the Chancellor makes his deliberations, I’d caution that we need to make sure that any changes are fair and produce economic and social benefits for everyone. After all, ensuring that everyone saves for their retirement is crucial. The truth is that while living longer has many benefits, if we don’t save enough, future Chancellor’s will have to deal with an even bigger fiscal headache. This is not another intergenerational unfair legacy we should be leaving our children or our grandchildren.
I am a strong believer in reforming the current system with a flat rate of pensions tax of 20%. That means maintaining the so-called EET-system – you pay no tax on your contribution or investment growth, but you pay income tax at your marginal rate when you access your pension in retirement. The alternative option in the consultation is TEE (where you are taxed upfront and pay no tax later). This to us does not look like it will have consumer support, which could mean the system unravelling as millions of pension savers realise their retirement income could be significantly reduce if a future Chancellor decided to tax their income at withdrawal, as happens now.
And it isn’t the current Chancellor’s fault, but it’s one promise he can’t make or keep – as he can’t ensure a future Chancellor will not tax people’s pensions at exit in 10, 20 or 30 years’ time. Indeed, if history serves as any proxy, since 1997 there have been over 1000 Statutory Instruments (legislative changes to you and me) relating to pensions, with hundreds relating to pensions taxation; the most famous being Gordon Brown’s pensions stealth tax costing billions.
The current pension system is looking brighter than it has in a generation. Auto-enrolment is one of the most successful public-private project in decades, it has reversed the decline in pension saving. It is the gold-standard in modern pension saving. Here at Legal & General we’re proud to have over 1.4m customers already automatically enrolled into our pension products with millions more to follow. Each and every saver is supporting a better retirement for themselves, their families and society more generally. That’s why we’ve put a self-imposed charge cap of 0.5% on our standard offering. It creates the right incentive for people to know that their hard saved money isn’t being lost in high charges.
The Chancellor has rightly said he wants to build on the success of auto-enrolment and create a sustainable system which enhances the incentive to save. Clearly, nobody would ideally want to pay tax on their pension savings which is why the overwhelming number of people (73%) would prefer to pay no tax at all. Having said that, only one in eight Britons (13%) say that the way pensions are currently taxed is fair for the whole of society, and almost half (49%) agree that there need to be changes to the way that pensions are taxed.*
So if Legal & General had to advise HM Treasury, it would tell them there are five things they should do:
And it’s because of this we’re calling for a flat rate of pensions tax relief of 20% within the EET system, which is re-branded as "save X, get Y as a bonus from the Government for free". At L&G, we think this is far more financially sustainable for the Exchequer, is easy for the customer to understand and works and supports retirement saving for this and subsequent generations to come.
We are supportive of the Chancellor's bold and radical policy, and encourage him to make the pensions system fairer.
* ComRes interviewed 2,059 GB adults online between 2nd September and 3rd September 2015. Data were weighted to be representative of all GB adults aged 18+ by age, gender, region and socio-economic grade.
So, what do you think?