SCRAP HIGHER RATE PENSION TAX RELIEF
Michael Johnson: £360 billion spent over the last decade on encouraging pension savings is misguided and ineffectual
In the lead-up to the Autumn Statement, leading pensions analyst Michael Johnson calls for a radical overhaul of the financial incentives currently provided by the Treasury in a largely failed attempt to encourage retirement savings.
In Costly and Ineffective: why pensions tax relief should be reformed Michael Johnson shows that these incentives are hugely expensive. They comprise:
Over the last decade, relief on income tax and NICs has totalled £358.6 billion, (excluding tax foregone on the tax-exempt 25% lump sum).
Over the same decade, the Treasury’s cost of funding tax relief (i.e. the yield on gilts) averaged a real 3.9% per annum, yet the average real annual return on all UK pension funds was a paltry 2.9%, i.e. 1% per annum less. Thus, the return on the Treasury’s co-investment with people saving for retirement, through the medium of tax relief, has been negative £17.5 billion. With most gilts being purchased by pension funds, this is partly explained by industry charges.
These tax incentives are clearly flawed:
Furthermore tax relief is not simply about deferred taxation – just one in seven who pay higher rate tax whilst working ever pay higher rate in retirement. From the Treasury’s perspective, this is a bad deal; higher rate tax relief is a huge cost (£7 billion a year) to the state, not an investment.
Michael Johnson calls for a radical realignment of the savings incentives framework. This paper’s nine proposals include:
Tim Knox, Director of the Centre for Policy Studies, comments:
“The Chancellor faces many difficult choices in the forthcoming Autumn Statement. It is easy to say what he should not do: to dream up new punitive taxes which are inspired more by political signalling than by their financial contribution to the Treasury or by their impact on the economy. Rather, sensible reform of the financial incentives for savings could yield a double dividend of increasing long-term retirement savings while also reducing the immediate cost to the Treasury.”