WTW comment
Certainly the Treasury will have been looking at options for tightening of the pensions tax regime in one guise or another. Whether the government adopts any of them won’t be known until the budget, but unlike tax relief on pension contributions (which is actually tax deferral), the tax-free lump sum is a genuine end-to-end reward for pension saving. It is also most advantageous to people who would otherwise pay 40% tax on withdrawals in retirement. Perhaps for these reasons, Lord MacPherson, who was Permanent Secretary to the Treasury from 2005 to 2016, said recently that there is “a really good case in principle to tax … the famous tax-free lump sum in pensions”. But he concluded: “I can tell you for free that’s not going to happen.”
Both aspects of that assessment might reflect the institutional Treasury view: It seems unlikely in the extreme that, were the Treasury designing a pensions tax-relief system from scratch, that it would allow so much income to escape tax altogether. However, it is not starting from scratch and will be sensitive to public reactions.
Moving the goalposts in relation to existing savings disrupts people’s plans at short notice – eg, some will expect to use their tax-free lump sum to pay off their mortgage. With no transitional arrangements and a (rumoured) cap on tax-free lump sums of £100k, the unanticipated tax bills could be large. For example, someone with a £600k pot could have to pay tax on £50k of their £150k lump sum; this would typically result in a tax bill between £10k and £20k, but more in some circumstances. The difference in treatment between people accessing identical pots the day before/after a change took effect would also appear transparently unfair.
In addition, some people currently have protected tax-free lump sum entitlements, entitling them to amounts significantly greater than £268,275. Unless those protections were also abolished (and some of those protections might be expected to be held by individuals with significant political “clout”), there would be an accusation that the tax-free lump sums for the wealthiest were being maintained, while those for normal “working people” were being confiscated.
At the other extreme, confining the change to tax-free lump sums arising from future pension contributions would produce little revenue in the short term – would the political pain be worth the minimal immediate gain? It would also focus tax rises on younger savers and on older workers who had planned to catch up with pension saving later in life (a choice permitted by a relatively high AA). And it would require everyone whose pension wealth is already more than four times the new limit to have their own protected tax-free cash amount.
We simply don’t know whether the tax-free lump sum will be impacted, but it would certainly be unwise to blithely assume that the pensions tax regime will be left unchanged.
We will shortly be publishing a Pensions Perspective that considers options that the Chancellor might be considering across the pensions tax regime.
