Jeremy Hunt is expected to use his Budget today to raise the lifetime allowance for pension savings. The lifetime allowance was introduced in 2006, and since 2011/12, has been gradually cut – from £1.8m to £1.07m today. Before today’s change it was due to be frozen at the current rate until 2026, potentially increasing the number of pension savers facing punitive tax charges when they draw their pensions.
Reports suggest the Chancellor is preparing to increase the cap back up to as much as £1.8m, while also raising the annual tax-free allowance from £60,000 from the current £40,000. The annual allowance has been fixed since 2015.
Why is Hunt doing this?
Probably the most compelling reason is that the current rules on annual and lifetime allowances serve to disincentivise people from staying in work. Once people hit the lifetime allowance threshold, their savings are hit with bumper taxes that dramatically reduce the extra cash they’ll see when they retire. Lower allowances have particularly affected GPs, prompting some to retire early – which is why some have taken to referring to this as a ‘doctor’s tax’.
Ultimately, these pension rules mean fewer economically productive people as more and more people leave the workforce, which stifles growth and puts a greater burden on the working population. So why have the changes been controversial?
Former pensions minister Steve Webb of LCP has described the slated rise as ‘jaw-dropping’, and warned that the increase in annual savings limits had the potential to backfire and enable some to retire sooner, therefore having the opposite of the desired effect.
The argument goes that if people can pay in a greater amount each year without being bludgeoned by punitive taxes, they may reach a savings goal earlier, and therefore call it quits earlier. To come back to doctors, in 2019-20, one third of the savers who breached the annual allowance were NHS workers, leading some to warn that staff were refusing extra work due to pension rules. While high-earner tapering, a reduction in the level of tax relief available, causes trouble for doctors here too, it is the punitive nature of the pension system limits that can cause some to retire earlier.
But let’s take a step back. The BMA, the trade union for doctors, has been lobbying for the kind of pension arrangements enjoyed by judges. As we’ve explained before, the Judicial Pension Scheme 2022 offers many advantages. As it is tax-unregistered, there is no annual allowance limiting the contributions a member can make to the scheme, nor is the scheme subject to the lifetime allowance. These ludicrously generous circumstances absolutely should not be replicated. Pension changes, like broader changes to the lifetime and annual allowances, should aim to benefit all workers, not just those in the public sector.
LCP also says that only 4% of the current workforce are past the lifetime savings threshold or are at risk of breaching it. True as that may be, these changes are only taking the system back to where it was.
The fact is that people choose when to retire for reasons entirely personal to them. Some may have a target amount of cash they want to build up before they cut and run. Some might have an age in mind when they’d like to dash for the beach. Some people might have a personal experience that makes them resolve to retire early. For these people, there is little the Government can do to stop them from retiring, other than by making it harder and more expensive to save.
It’s far better to incentivise people to stay in work. In the private sector, these may be some of the country’s best and brightest. Hunt’s changes would be a step in the right direction – not least towards a simpler Single Income Tax where people know where they stand instead of grappling with so many complicated taxes. Allowances should be raised further, so there’s no reason for experienced employees to be taken out of the workforce by these pension limits. And at the same time, ministers would be left with no excuse not to look at other inequalities in the pension system, especially our over-generous public sector pensions.
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