Thursday, 20 March 2014

Pension plans are a good idea, but need revisiting to be fair on us all

That people should have control of their own savings doesn’t just sound like the right thing to do, in those terms it seems bizarre that there were ever bars on what people could do with their pension pot in the first place.

However, if these new rules are to work, there is a patent unfairness in the tax system that HAS to be addressed and the government must stop giving Higher Rate Relief to certain individuals.

If you pay into your pension as a basic rate taxpayer, every £80 you put in your pot increases by £100 as the government, or rather the taxpayer, puts in £20 extra by way of 20% tax relief.

However, if you pay at 40% you need only put in £60 for the same affect, and if you pay at 45% just £55 is needed.  The extra is usually given to you via a reduction your self assessment tax bill.

An individual can, from April put £40,000 per year into a pension, but you can use 4 years of this is you haven’t contributed in the previous three years.  So a person might write a cheque for £128,000, put £160,000 into their pension pot and receive a tax refund of £40,000.  That’s £72,000 put into their pot by the taxpayer.

When we reach the age at which we can cash out pensions, a basic rate taxpayer may take their pot with a deduction of 20% tax – paying back their relief.  However, a taxpayer who previously received relief at 45% is now also a basic rate taxpayer, they can plan their withdrawals to pay only £14,400 tax on their £72,000 taxpayer funded relief – effectively a £57,600 bung into their pockets, with no obligation to spend it on providing for their old age.   

It’s not quite enough for a Lamborghini, but you can buy a very nice car for that money, and it won’t have cost a penny to someone who was earnest at the very highest level.   It equates to EIGHT YEARS of single tier state pension at the proposed level, just for being well paid. 

A further £40,000 could be added (with £18,000 provided by the taxpayer) per year up to a pension pot of £1.25m, withdrawn with 20% tax deducted of £8,000.  A £10k per contribution year bonus.  
With the prospect of taxing withdrawals at the rate they got relief far too cumbersome, the only way to curb this inequity is to end higher rate relief and to fix the rate of tax on exit.  You get 20% relief when it goes in; you pay 20% when it comes out.  Anything else leaves the government wide open to more accusations of further tax breaks to the very wealthiest.