As politicians debate the future of tax relief on pension contributions, retirement savers might be wise to take advantage of current rules.
Few would doubt Chancellor George Osborne’s claim that the pension reforms due to be introduced in April represent “the most radical change to how people can access their pension in almost a century”.
Yet, before the changes have even been implemented, political parties are warming up for May’s general election with further proposals that aim to close the retirement funding gap and pay for other campaign promises.
There have been calls from the pensions industry for a period of stability to give individuals and providers time to adjust to April’s new regime. However, it seems those pleas could go unheeded as the political parties stake out their differences.
The Labour and Liberal Democrat parties have in their sights an overhaul of the tax relief on pension contributions. Currently, the government tops up individuals’ contributions according to the rate of tax paid – 20% for basic rate, 40% for higher rate and 45% for additional rate taxpayers.
At the top end, that means a £10,000 pension contribution could cost an additional rate taxpayer as little as £5,500. The result is that 75% of the £2.4 billion relief given to individuals goes to higher earners; however, these are the workers who pay the most tax. 1
Labour has pledged to abolish 45% tax relief for additional rate taxpayers; those who earn more than £150,000. Instead, these would qualify for only 20% relief.
The Liberal Democrats propose to abolish the higher rates of relief and level the playing field for all pension savers. They would provide 50 pence of tax relief at source for every £1 paid into a pension, making an effective 33% flat rate of tax relief for everyone.
Presently, the maximum amount that people can put in their pension pot – the lifetime allowance – is £1.25 million; anything above is taxed and does not qualify for tax relief.
Labour says it will cut the lifetime allowance to £1 million, however, and plans to reduce further the annual allowance from £40,000 to £30,000.
The Liberal Democrats party has said it too will reduce the lifetime allowance to £1 million, although the party’s pensions minister Steve Webb has suggested there should be no upper limit at all and that the lifetime allowance should simply disappear.
Of course, no one knows what will happen after the general election or how soon any changes might be implemented.
However, it is clear that a reduction in higher rate tax relief would increase the cost of a pension contribution for some savers – and these individuals would receive greater tax benefits if they made contributions now rather than in the future.
Individuals with the required level of earnings who make use of unused allowances from this and previous years could contribute more than £40,000 before the tax year-end – and take advantage of current rules while they remain in place.
In some cases it will be possible to contribute considerably larger sums: someone who uses allowances for this year, the previous three years and next year before 6 April could pay in up to £230,000 – if they have earned income to support this level of contribution in this tax year.
Even if that size of contribution is out of reach, there are good reasons to pay a single contribution before the new tax year begins, when the ability to exploit any unused 2011/12 allowance will fall away.
And who knows what the election may bring.
1 Source: Pensionstatistics.com, March 2015
The levels and bases of taxation and reliefs from taxation can change at any time. The value of any tax relief depends on individual circumstances.