Sunday 12 July 2015

More Changes to Pensions?

Are we be better off investing in a pension or an ISA?

It may not make any difference if some of the proposals suggested in the latest consultation Green Paper on pensions tax relief are adopted.

At the heart of the current pension system is a simple principle - the contributions you make to a pension during your working life are tax free, and you pay tax on them when you come to take your pension - except you have the option to take 25% as a tax-free lump sum.

In his budget speech earlier this week, the Chancellor suggested pensions could be treated like ISAs, whereby taxed money goes in and there is no tax on the way out.

There have been quite a few changes for people to take on board in the past year or so.

In the Spring Budget 2015, the government announced changes to the ISA rules which allow you to withdraw and replace money from your cash ISA intra-year without this replacement counting towards you annual ISA subscription limit. This policy will also cover cash held in stocks and shares ISAs.

These changes will come into force from 6 April 2016.

Last year, pension freedom reforms were introduced and took effect from this April and have given people control over what happens when they access their pension. The introduction to the workplace auto enrolment is trying ensure that more and more people have the opportunity to build up savings for their retirement.

The introduction of this workplace pension reform now means that more than 5 million people are newly saving into a private pension via their place of work pension schemes. By 2020, the government expects to see 8 to 9 million people newly saving or saving more, generating £11bn a year more in workplace pension saving.

Over the course of the last Parliament, the coalition government made several changes to limit the amount of tax-privileged pension saving that individuals can make, either personally or by their employer, through changes to the lifetime and annual allowances.

The lifetime allowance has been reduced from £1.5m in 2006 to currently £1m. The annual allowance has been significantly reduced from £255,000 in 2010 to currently £40,000.

Even allowing for these less generous provisions, the treasury have estimated that the gross cost of pensions tax relief remains significant. Including relief on both income tax and NI contributions, the government gave up nearly £50bn in 2013-14.

The proposals for Reforms

A sound case could easily be made that the best method of achieving the government’s aim of fostering a strong culture of saving is to retain the current system, particularly as it is deeply embedded in many processes used by employers and pension providers.

However, the government is also interested in exploring options for how the system of pensions tax could be reformed to strengthen the incentive to save.

While the current system is simple in principle, there is evidence that some pension savers are unaware or not motivated by the tax benefits associated with paying into a pension. In particular, research suggests that for lower income groups tax relief is not an important determinant in people’s decision to save. Some are unaware that they will be required to pay tax on their pension when they come to retire.

It has been suggested that a fundamental reform of the system so that pension contributions are taxed upfront (a system like ISAs), and then topped up by the government, may allow individuals to better understand the benefits of contributing to their pension as the government’s contribution might be more transparent, and they would no longer need to consider the future tax implications of their pension choices or work out how much their pension pot is worth given their expected tax rate in retirement.

Equally, others have argued that the current system, where no tax is due on pension contributions while working but tax is paid in retirement, is simple for individuals to understand and also provides an incentive to leave money in their pension pot. Many other variants have also been suggested

Personally, I take the view there have been too many changes to pensions over the past decade. These are supposed to be savings plans for the long term and I am wondering how people are expected to make plans for their long-term future when the goalposts are moved and the system is changed and tinkered with year on year.

Obviously, it is important for individuals to take responsibility for their future so any initiative to remove barriers or introduce incentives for younger workers to save are to be welcomed. However, I am sceptical that moving the tax breaks from on the way in to on the way out is going to make a whole heap of difference to most savers.

Maybe it would be possible to introduce a simple, ultra low cost, diversified index fund and used as a default option for workplace pensions, this would help to restore some much needed confidence in the system.

I don’t think I will be submitting my views to the Chancellor but for those who take an interest and may wish to throw in their two penn’orth :

Pensions Consultation 2015
Pensions and Savings Team
HM Treasury
1 Horse Guards Road
London SW1A 2HQ


Responses to this consultation should be received by 30 September 2015.


  1. The potential changes do worry me, as someone who is still 20 years from being able to access a pension.

    Can't see the Chancellor upsetting current pensioners, but he'd happily screw over the younger generation. Why? Because most wouldn't understand what was happening to them, or care much as it was "like so far in the future and we'll probably have hover cars then anyway".

    1. MRF,

      I agree the changes which may be brought in could only apply to young people starting out now as it would be unacceptable to allow those who had received substantial tax benefits to later get away with paying no tax when they drew their pensions.

      Changing the system would gradually move the tax burden further along the road but whether it would mean more people would start to save for the future, I remain sceptical. I am however looking forward to getting a hover car - wonder what the road tax will be!

  2. I'm with you John. I really do wish they would stop tinkering. It now seems that every budget there is some change or consultation.

    From the day you add your first £ to your pension to the day you pop your clogs could be 60 years or more. To be able to plan for both accrual and drawdown phases over that period what we need is a clear set of rules that are stable. We have exactly the opposite.

    It's why I use Pensions for my own wealth building but am reticent to 'fill my boots'.

    1. RIT,

      Thanks for stopping by.

      You are possibly right not to go overboard with the private pension. As you say, it would be good to have a long period of relative stability so that younger people - or at least those clever enough to know they will need to take care of their future welfare needs - can make some longer term plans.

      All these changes lead to uncertainty which may in turn put some people off the idea of pensions - not to mention their complexity and the fact that providing for your 60s and 70s is probably not the highest priority in your 20s.

      I have a sneaky suspicion there may well be more to the proposals than is apparent on the face of it..time will no doubt tell us more.

  3. I'm getting very close (3 years max) to wanting to draw my SIPP and use it to fund the years before I take my defined benefit pension so I hope things stay pretty much as they are for a while so that I can finalise my plans.

    Any rises in the tax threshold will benefit me as I aim to take as much out of my SIPP as I can and still remain below the threshold. For that reason I'm going to be paying a little more in than I originally planned to whilst I'm still at work. I still need to work out how much though.

    I agree with your point that saving for a pension should be simple, transparent and stable. However the changes which were made this year to allow flexible drawdown were a godsend to me and will enable me to retire at least 3 years earlier than would otherwise be possible. Personally I have a lot to thank George Osborne for (apart from his overall effect on my blood pressure :-))

    1. Cerridwen,

      I would be surprised if any changes they introduce affect those close to retirement so I would think your DB plans should not be any change.

      In three yrs, the tax-free allowance should be getting towards £12K - many lower paid workers and pensioners will be taken out of income tax completely which is good - although indirect taxes have increased such as insurance tax etc.

      I welcome the new flexible drawdown provisions and will probably take advantage of this by withdrawing a sum up to my personal allowance and moving into my ISA. Although my pension drawdown is too low to be taxed at present, it may change when I receive my state pension at age 65 as this is taxable.

      I hope your BP is starting to return to normal! I also hope your earlier retirement plans work out and I hope there is not too much more tinkering with pensions.

  4. I quite like the concept of a pension account into something like an ISA (taxed on the way in but not on the way out) but topped up by the government to the tune of perhaps 20% for everybody. That would benefit low earners the most and high earners the least, which seems reasonably redistributive.

    Although of course the point of this is to increase taxes, so it's only going to change in a way that achieves that primary goal.


  5. Ask the man in the street the difference between a SIPP and ISA in general and you'll get many incorrect answers ignoring the tax implications complication. Tax relief is a concept that not many understand - it 'just happens' behind the scene.
    My feeling is this is due to the fact that the UK does not have a system where everyone has to submit an annual tax assessment as many countries have as a legal requirement.
    I suggest that by submitting an assessment you learn and understand your tax system and the concepts, differences etc
    The single account concept also follows a number of other countries but the implementation to it, would require a buy-in by the public as change is never easily accepted.