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22 April 2009

Pensions' tax relief to be restricted for high earners

The Chancellor of the Exchequer, Alistair Darling, announced in today's Budget that tax relief on pension contributions is to be restricted for those with incomes above £150,000 pa from 6 April 2011.  This will follow hard on the heels of the introduction of a new rate of income tax of 50% that will apply on income in excess of £150,000 pa and a restriction on personal allowances for those with incomes (after certain adjustments) above £100,000 pa from 6 April 2010.

From 6 April 2011, the value of pensions' tax relief applying to income in excess of £150,000 pa will be tapered down (from 50%) so that for those on incomes above £180,000 pa tax relief will be at the rate of 20%, the same as for basic rate income taxpayers.

The restriction on tax relief will apply not only to an individual's own pension contributions but also to any contributions made on their behalf by their employer or any other party.  This means that employer contributions paid in respect of high earners will no longer be tax-exempt as far as the employee is concerned.

It will be easy to quantify contributions made to defined contribution pension arrangements, but not so easy in defined benefit (DB) schemes.  The Government will thus consult on the implementation of the restriction of tax relief and, in particular, how employer contributions to DB schemes should be valued.

Employers will continue to receive full relief from corporation tax on their pension contributions.

Anti-forestalling

The Budget Notes set out measures for preventing high earners from maximising their pension contributions over the next couple of years in order to take advantage of full tax relief while it is still available.

The Finance Bill 2009 will create a new tax charge that will apply to high earners who "increase their pension savings on or after 22 April 2009 over and above their normal pattern of regular pension savings", but only if their total pension savings exceed £20,000 in that year.

Comment

The restriction on tax relief will be seen as unfair by many given that high earners will pay tax at the higher 40% rate, or even the 50% rate, when they receive their pension benefits.  It could also adversely affect employers' attitudes towards pension provision, particularly where the key decision-makers are high earners.

It had been rumoured for the last few days that tax relief was going to be restricted, possibly by abolishing higher rate tax relief.  The restrictions do not go that far and so apply to fewer people, but have surprised many by applying to employer contributions as well as personal contributions.  This raises serious questions for anyone earning over £150,000 pa.

It had been suggested that the restriction on tax relief could be mitigated by making schemes non-contributory or by introducing "salary sacrifice" arrangements, but such steps would not work given high earners will now be taxed on their employer's contributions.

We keenly await the detail as to how employer contributions to DB schemes are to be quantified.  Presumably these will only relate to ongoing benefit accrual as it would be unfair for deficit-reduction contributions to be included, particularly to the extent these relate to liabilities in respect of pensioners and deferred pensioners.  There again, high earners who are self-employed and feel the need to plug the hole in their DC pension savings caused by the recent stock market falls may disagree because their "deficit reduction" contributions will not attract full tax relief!

We would imagine the restriction on tax relief will be effected via high earners' self-assessment tax returns.  If so, there ought not to be any additional administrative burdens for employers, which would be one small crumb of comfort.

Payments made from the Financial Assistance Scheme (FAS) or the Financial Services Compensation Scheme (FSCS)

The Finance Bill 2009 is to include provisions to ensure that compensation payments made by the FAS are treated in broadly the same favourable way as if paid from a registered pension scheme.

Similar provisions will apply to compensation payments made by the FSCS if assistance is required by an insurance company to meet its obligations to pay annuities.

Comment

Both of these measures are eminently sensible and ensure consistency with the regime they are protecting.

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