John Ball, managing director of Towers Watson’s Retirement Practice in EMEA, said:
“The consultation paper is called ‘Strengthening the incentive to save’, and we agree that the tax system ought to provide incentives for people to save for retirement. The Government should retain the idea that retirement savings are kept separate from, and be taxed more favourably than, other savings.
“We think it is better for income to be taxed on the way out of a pension rather than on the way in. Allowing tax to be deferred targets high tax rates on people who have high incomes across their lifetimes, keeps tax revenues in the future helping to diffuse the ‘demographic time bomb’ and reduces the amount of trust that savers must place in future Governments not to dip into their pension savings for a second-helping of tax.
“Under the current system (known as EET), 100% of contributions are exempt from tax*, investment returns are exempt from tax and 75% of withdrawals are potentially taxable after a 25% tax-free lump sum has been taken. Under the system known as TEE (taxed contributions, exempt investment returns and exempt retirement benefit), 100% of contributions would come from post-tax income and 100% of withdrawals would be tax-free. There would no longer be 25% tax-free at both ends – equivalent to abolishing the tax-free lump sum for new pension savings.
“In theory, the short-term revenue boost from moving to TEE would be significant – often cited as £27 billion**. However, most of the £27bn relates to defined benefit (DB) schemes and it would be particularly difficult to apply TEE to these. If DB schemes were exempt from any change, the upfront revenue gains would be around £8bn. But this is not a saving, it is simply bringing forward a tax charge. Could the Government weaken defined contribution (DC) incentives sufficiently to make the pain of upheaval worth the revenue gain? That would hardly be in keeping with the stated aim of strengthening incentives.
“Even if TEE were applied to DB, around £4 billion of the tax relief relates to the revenue forgone by not taxing individuals in respect of deficit contributions paid by employers***. We would be extremely surprised if any politician proposed making employees and pensioners pay tax when a former employer shores up promises made many years earlier.
“We agree with the Prime Minister that “… we’re all going to have to work a little harder and save a little more. And I think it’s easier to expect people to save a bit more if you’ve got a more generous tax treatment of pensions”. We therefore hope that the Government will not see this review as an opportunity to tax new pension savings more heavily and honours the Conservative election commitment to make no further regulatory changes beyond the reduction in the annual amount that high earners may save tax-free, due to come into force next April.
“The current pensions taxation regime does need simplification, but we believe that this is both possible and practical within the existing taxation system. Removing the annual allowance control from DB pensions and the lifetime allowance from DC pensions would be genuinely deregulatory – a very much welcomed simplification.
“The issues raised within the consultation are critical to the provision, and level, of pension savings – we urge the Government to think long and hard before promoting change. If there is to be a new regime, unless it replaces all that came before it, it will not deliver simplicity.”
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