Insurers have given a cautious welcome to calls to simplify pensions tax relief but have warned a “pensions Isa” could undermine the success of auto-enrolment.
Yesterday the ABI called for the government to introduce a flat rate of tax relief on pensions, following research by the Pensions Policy Institute that showed how the current system disadvantaged women, younger workers and those on lower salaries.
Aegon says it supports moving ‘carefully’ towards a flat rate of pensions tax relief. But it warned that replacing the current system with an Isa-style approach is fraught with danger and poses a major risk to the success so far of automatic enrolment.
This week a report from the Centre of Policy Studies suggested such a pensions Isa may be one way to address this issue.
Aegon pensions director Steven Cameron says: “Those saving into a workplace or private pension are foregoing income now to make provision for an income in their retirement years. The current tax system means they get ‘tax relief’ on contributions paid in but are taxed on the majority of the proceeds once they retire.
“This does mean those paying higher rate income tax get more relief on contributions and we support a careful review of how a greater share of support can be targeted at those on lower earnings. This might involve offering everyone a flat rate of relief somewhere between the basic and higher income tax rates.
“However, the more radical proposal referenced in the CPS report to drop tax relief on contributions in return for making all proceeds in retirement tax free, sometimes referred to as the ‘Pension Isa’ is fraught with difficulties and poses a major threat to the success of both automatic enrolment and the pension freedoms.
“Chancellors focussed on the short term may like the idea of collecting more tax today by dropping upfront relief, even if partly replaced with some form of upfront boost. But this comes at the expense of a major shortfall in future income taxes receipts, effectively shifting a greater burden onto future generations.”
He adds: “Some may present this as moving to a simpler Isa-style system, but it’s incompatible with all existing pensions and hugely problematic particularly for defined benefit or final salary pensions.”
Aegon points out that pension income from contributions paid in the past would continue to be subject to income tax while the funds built up from future contributions would be tax free when paid out, requiring rigorous ring-fencing.
This would double the complexity for all those currently saving for retirement including the 10 million individuals in workplace pensions as a result of auto-enrolment. In practice, it’s likely every existing scheme would need to be frozen with new schemes put in place for future contributions, creating additional costs.”
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