Are pension benefits ripe for picking?

Sean Jones, Financial Planning Consultant
Profile image of Sean Jones, Financial Planning Consultant, JH&P

Sean Jones, Financial planning director

Speculation is mounting that the Chancellor is planning to squeeze some of the generosity out of the current pensions regime by cutting high earner relief to 20%.

There is a long history of Chancellors (and 10 Downing Street spin doctors) leaking unpleasant news to see how strong the reaction is. If there is widespread anger, they can quickly reverse, pretending they were never planning any such thing. If the response is muted, they have taken some of the media sting out of the bad news when it is finally confirmed.

There have been rumours about the demise of this particular perk for years. If removed it could save the Treasury almost £10bn a year. For any hungry Chancellor that is as tempting as a juicy apple hanging within easy reach. It may be worth taking a bite yourself, while you can.

Pensions tax strategy

We do not advocate panic financial planning, but for high earners who are not close to breaching the £1,055,000 lifetime allowance, there is a lot to be said for pumping as much as you can into your pension now. This is especially the case for those earning over £100,000. For every £2 you earn over £100,000 you lose £1 in personal allowance. The effect of this is that your marginal rate of tax between £100,000 and £125,000 is 60%. Putting that money into a pension is effectively saving you £15,000 in tax.

There may also be the opportunity to use salary sacrifice when making contributions. This allows you to sacrifice the money from your salary before National Insurance. This saves you 2% in National Insurance contributions. It also saves your employer 13.8%, which many employers will add to your contributions.

If you have not maximised your pension contributions in the past three years, you can carry forward the unused allowance into this year. If you have earned sufficiently, that means you could be in a position to invest £160,000 into your pension in one fell swoop. This will save you at least £64,000 in tax, assuming all your contributions are from higher-rate earnings.

There are several caveats. Perhaps the most important is the tapered allowance trap. This reduces your pension contributions allowance by £1 for every £2 that your income – which includes earnings, rental incomes and other investment income – takes you over £150,000. It can get fiendishly technical but the tax benefits of paying into a pension and exploiting carry forward can be so substantial that it is worth taking professional advice and soon.

Simplifying pensions?

If the Chancellor does remove the high earner relief, many will be hoping he removes some of these complex tapers and the lifetime allowance too. He could argue then that this is part of a radical plan to simplify pensions. If not, removal of this benefit is likely to cause many high earners to question if it is worth saving into a pension at all. Surely, ISAs would then become the primary tax saving mechanism because they are much less restrictive.

Many have argued that a flat rate of 30% for all pension savers and, perhaps, an investment limit of £20,000 a year – in line with ISAs – would still leave some benefit on the table for high earners. And it would actually give more to lower-income families who need the most incentive to scrimp today to save for tomorrow.

Suffice to say that we will be watching the Budget closely for any changes. We will be listening closely too for news of another pensions benefit – the fact that assets within a pension wrapper on death are not counted when calculating IHT liabilities. This is becoming increasingly useful and important for many older people. It is another good reason for pumping money into a pension while you can.

IHT benefit

Nothing has been leaked yet to suggest that this is to change. But I could see the Chancellor argue that the benefit does not make sense. In fact, it distorts the way people save for retirement and draw income when in it. To drop the benefit might be seen by some voters as a betrayal. But if that is the case, the Chancellor may take the view that it is better to do it now than later, when it is has become embedded – seen as a sacrosanct tax privilege by everyone.

We do not know what the Chancellor will say on March 11th, but we do know he needs money – a lot of it. And he cannot please us all. Those pre-Budget leaks suggest he is testing just how far he can go in upsetting people.

Sean Jones

10 February 2020

This is not advice and you should not act on the content of this comment without taking professional advice. Opinions and views expressed are personal and subject to change. No representation or warranty, express or implied, is made of given by or on behalf of the Firm or its partners or any other person as to the accuracy, completeness or fairness of the information or opinions contained in this document, and no responsibility or liability is accepted for any such information or opinions.

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