Tuesday, 1 November 2011

Three things I saw in the news today - part 2


There are suggestions that the government may wish to remove the ability to take a tax free cash sum from your pension pot.  It's not the first time that it's been suggested, and I doubt that it will be the last, but it's still stupid, and would likely be the end of personal pensions.

Pension investments have three main benefits: (i) You sometimes get contributions from your employer (free money!) - and this will be more likely once NEST comes in and it's mandatory for all employers to contribute, but the rates of employer contribution that are mandatory are tiny, and really not significant enough to make much difference.  (ii) You can take 25% of the value of the benefits tax free. (iii) They can serve as a way to defer income, so you can avoid paying tax now, but pay tax on the benefits when you receive them.

If you take away the 25% tax free element, then the only people for whom pensions will be worthwhile are those who are getting free money from their employer (and even they would likely be better off with a higher salary) or those who are currently paying higher rate taxes but who will be on a lower rate in retirement (due to lower incomes).

So if you abolish the tax free cash, the vast majority of people who would still benefit from a pension would be those who are higher rate taxpayers - which doesn't sound like a progressive move in my book.

Also, giving tax relief doesn't cost the treasury anything.  If the school bully normally takes half of your lunch money but one day decides to take only a quarter, it's not cost the bully anything - it just gives you a little more money to get your lunch with.  Leaving the money in the hands of those who earnt it is surely not a bad thing?  I know the tradition these days is to believe that the state knows better than we do, and can spend it so much more efficiently (oops, there goes the sarcasm detector again) but I reckon leaving a little bit of money with those who've worked for it for all their lives is not a bad idea...

One final point: If people have less pensions, guess who has to pick up the slack?  Do we really want people relying more and more on state handouts in retirement?  Surely it's better to offer some incentive to get them saving up for retirement...

Edit to add: I know they're saying that they'll just make it so that you pay higher rate tax on it if you have more than x amount.  This will still impact just about everyone.

Consider a small final salary scheme.  Someone on a pretty average wage (say £25,000) works for them for 20 years.  The pension that they'd accrue on 60ths is £8,333 a year.  Not a lot to live on, right?  Now, suppose the scheme offers the same commutation factors as the governments pension protection fund: 18.66 at age 65 (for post 97 service) - that means that they'd be able to take £40,931.81.

That's about the limit that they're proposing before tax is applied - and that's come from less than half of the average working life.  If they'd been there for 40 years (or had worked elsewhere with similar benefits) then they'd be looking at paying 40% tax on £40k - or to look at it another way, the government would be taking about 16k from the average earner on retirement.  I don't know about you, but I reckon they'll have had enough of my money by then...

No comments: