On the face of it, the eye-catching stuff in Jeremy Hunt’s first Budget is the changes to allowances – big moves in how much money you can put into a pension pot.
From this April, it will be much easier for people with higher incomes to amass larger pensions pots. With the annual allowance rising from £40,000 to £60,000 and with the lifetime annual allowance effectively abolished, higher earners have had a good afternoon.
This should help ease the long-running issue with pension tax charges strongly incentivising doctors to retire early. Doctors’ comparatively high late career earnings, the generosity of their defined benefit pension arrangements and the restrictiveness of the tax thresholds combined to give senior medics five figure tax bills. Faced with this, many seem to have chosen early retirement.
Changes to allowances will benefit those with larger pensions
This creates a regime that is now very generous towards those with larger pension pots. Indeed, the tax treatment of pensions on death now looks extremely generous – perhaps unsustainably so. The government has, though, capped the maximum amount of tax-free cash that can usually be taken at the current level of £268,275 and intends to freeze it at this level.
The government has also chosen to increase the Money Purchase Annual Allowance (MPAA) from £4,000 to £10,000, with the stated intention of enabling people who have retired early to return to work and replenish their pension savings. The MPAA exists to stop people old enough to access their pensions from recycling money from a pension pot. That means taking tax-free cash from the fund and then putting it back in to claim tax relief.
This remains a breach of the tax rules but the difficulty in spotting people doing it means that it’s not just enough to forbid it and punish offenders. We’d expect the volume of illicit behaviour to rise. We’re also not sure that a change in the pension tax rules is a sufficiently big enough draw to lure former higher earners back to work. The OBR seems to agree, their central scenario is that the whole package of pension tax changes will increase employment by 15,000.
With median full-time earnings in the UK being £33,280, these changes are not relevant to the vast majority of UK workers. Indeed, all this is only really relevant to those paying higher and additional rate tax – and then those well into the higher rate band. The changes don’t really speak to the main issues in pension policy, specifically whether most people in work are saving enough to retire on.
Moves to encourage pension funds to invest more in UK infrastructure
The less eye catching but potentially more important stuff is coming in the autumn statement. For some time now, there has been a rolling concern at the top of government about the role that pension funds play in the UK economy. This has resulted in a range of initiatives, intended to help encourage pension schemes to invest in less liquid assets, such as infrastructure and private equity, and to do so in the UK.
So far, the measures we’ve seen are what we would term ‘enabling’ measures. These are broadly sensible and intended to help pension schemes invest in less liquid assets of their own volition. So far, we have seen guidance from the productive finance working group on how to manage liquidity risk as well as other matters.
We’ve seen changes to the defined contribution default fund charge cap to help accommodate performance fees and the Department for Work and Pensions is currently consulting on value for money measures. These are intended to help reshape the workplace pensions market so that competition focuses less on pension scheme charges and more on the potential of a pension scheme’s investment approaches to deliver investment outperformance.
There is potential for the government to be more directive here. Recent think tank proposals on this issue have included making the tax treatment of pension funds contingent on a given level of investment in the UK. Any move away from purely enabling pension funds to invest in less liquid assets needs to bear in mind the primary purpose of pensions – to deliver an income for savers in retirement. It’s their money not pension funds’ money or taxpayers’ money.
So, some significant changes in the Budget but the changes only really affect a minority within a minority of higher earners. Depending on the result of government’s conversations with the pension sector before the autumn, we could see more radical and impactful changes in how pension schemes invest. That may end up being the announcement that gets remembered from this Budget.
Phil Brown, director of policy at People’s Partnership