The People Bulletin

The Treasury has announced that the amount of tax-free income that savers can put into pensions is being reduced from £255,000 per annum to £50,000 from April 2011.[1] The changes are estimated to save more than £4bn a year.

The coalition government began a consultation began a consultation after the Labour government announced plans to gradually reduce the tax relief available on pensions contributions for those earning more than £150,000 to 20% even though they pay income tax of 50%.

In addition, the formula for calculating the increase in someone’s pension if they are in a defined benefit (final salary) scheme cost that person more in tax. A single factor of 16 will be used to value defined benefit accrual, i.e. a £1,000 per annum increase in pension is valued at £16,000. At the same time, the lifetime allowance is to be reduced from £1.8m to £1.5m, probably from April 2012.

The following details have also been confirmed:

• Deferred members will be excluded from the regime and revaluation of previous years’ benefits in a defined benefit scheme will not contribute to the annual allowance test for active members.
• Where individuals take early retirement, there will be no adjustment to the flat factor to take account of the fact that the pension is being paid from an earlier age (although exceptional increases will be covered by anti-avoidance legislation).
• Individuals will be able to carry forward unused annual allowance for up to three years, which will help to manage any charges brought about by spikes in accrual (for example when a long-serving member is promoted).
• Additional disclosure requirements will be placed on scheme administrators where members exceed the annual allowance. Employers will also have to provide information on employees’ pay and benefits within a fixed timescale. For the first year of operation, schemes and employers will have an extra year to comply with these new requirements.

Mark Jackson, a partner at actuaries LCP commented:

"This isn't like a change to income tax because the new pension tax can hit an employee simply as a consequence of the design of the pension plan offered by the employer. Employers cannot ignore this and they need to act quickly.

Employers need to get under the skin of the new rules and understand what aspects of their specific pension plan will trigger tax charges if employees continue to save for a pension as they have in the past. There could be certain mitigating circumstances which will need careful consideration.

Employers cannot wave a magic wand and make pension plan changes overnight. A period of employee consultation is often required. But now the UK government has revealed its hand, companies need to press on and start making informed decisions. The next challenge will be to communicate these decisions to employees - many people across the whole earning spectrum could now be affected."

Jane Beverley, principal and head of research at Punter Southall also pointed out:

“The reduction in the lifetime allowance will be a blow for those with the largest benefits although the position is likely to be better than under the original proposals which were targeted only at individuals with annual earnings over £130,000. It is also proposed that protection will be available for those who have already accrued pension pots in excess of £1.5m or who were aiming for an eventual pot of up to £1.8m. HM Treasury is consulting until 29 October on the issues surrounding the reduction in the lifetime allowance and plans to publish draft legislation towards the end of 2010.” 

[1] www.hm-treasury.gov.uk/consult_pensionsrelief.htm