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 1. Pensions


WHICH LABOUR PENSION REFORMS COULD BE WORST FOR SAVERS?

From tax-free withdrawals to higher-rate reliefs, there are plenty of pension
reforms that could save the Treasury money. We reveal how rumoured changes could
affect you.

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commission. Here’s how it works.

(Image credit: Getty Images/Paul Taylor)

By Marc Shoffman
published 16 September 2024
in Advice

The rumour mill continues to swirl about how the pension landscape could be
impacted by the October Budget.



Chancellor Rachel Reeves has warned of tax rises to combat a £22 billion
shortfall in public finances and after changing the rules around which
pensioners can get the winter fuel allowance, there are fears that retirement
savings could also come under the spotlight.



The government has launched a review into making the pensions market more
efficient for savers but there are warnings that the first Budget under the new
Labour government on 30 October could also introduce changes to perks for
wealthy savers and retirees.


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While the government has committed to maintaining the triple lock as well as the
lifetime allowance on pension saving, there are plenty of other reforms that
could save the Treasury money.

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Here is how changes to some of the most popular pension perks could affect you.




RISKS OF LABOUR'S PENSIONS MARKET REVIEW

One of the key pension market reforms under consideration is encouraging further
investment into UK assets to boost growth across the country.

While this approach could stimulate short-term economic growth,  Jack Munday,
chartered financial adviser at Saltus, warns of potential risks. 

"There is a danger of a 'set and forget' mentality, where large scale asset
management lacks the ability to be truly targeted, leading to asset drift -
where changes in market prices lead to unintended changes in the balance of a
portfolio - and increased risk," he says.

"Moreover, reduced competition in the marketplace could result in price surges,
with the most dominant players exerting more control."


WILL HIGHER-RATE PENSION TAX RELIEF BE SCRAPPED?

Reeves is by no means the first chancellor to be rumoured to be planning to
restrict pension tax relief.

Despite regular suggestions ahead of previous Tory government Budgets that
relief for higher earners could be scrapped and restricted to the basic rate of
20%, the policy has never made it into the red book.

But with the net cost of tax relief on pension contributions hitting £48.7
billion in 2022/23, according to HMRC data and almost two-thirds from higher
rate relief, Reeves may well be tempted to take action.

Limiting up-front relief to the basic rate of income tax would be a £15 billion
a year tax rise, according to the Institute for Fiscal Studies (IFS).

“At worst the Chancellor could scrap pension tax relief altogether in the
Budget, although this would be an extremely unpopular move,” says Tomm Adams,
head of international pensions and benefits at Blick Rothenberg.

“She could also introduce a flat rate tax relief of 30%, substantially drop
annual relievable allowance, or reduce the 25% tax-free lump sum to 20%. Any of
these would dissuade long-term pension savings as the tax paid on them would
effectively increase.”

If the chancellor does go after pensions, adds Adams, introducing a flat rate
tax relief of 30% feels in line with hitting claims that the changes would hit
the “broadest shoulders.”

He says: “The average employee in England or Wales, who earns under £40,000 and
is a 20% marginal taxpayer, would get more tax relief than before. But that
would be fully subsidised by higher earners with the excess going to the
Treasury.”

Changing pension tax relief rules would also be a nightmare for payroll
departments, especially if introduced immediately.

“An immediate change on 30 October could also have unintended consequences where
contributions are taken out of October payroll  but not physically transferred
into pension pots until the start of November – this would be a significant
oversight, leaving many individuals caught out by an unexpected loss of tax
relief,” adds Adams

Ed Monk, of Fidelity International highlights that Labour has previously ruled
out this policy- although that doesn’t mean they can’t change their mind -
adding: “Any change risks being unpopular and could be very difficult to
implement, not least because it could create a system where tax on withdrawals
is at a higher rate than the relief on contributions - destroying the incentive
to save into a pension at all for some people.”


CHANGES TO TAX-FREE WITHDRAWALS?

Currently, retirees can take 25% of their pension pot tax-free once they are
ready to access it.

Known technically as the pension commencement lump sum, it is one of the main
perks of retirement saving.

The IFS has suggested removing the incentive for those with larger pensions,
which would raise £2 billion per year, “with losses concentrated among the
relatively wealthy.”

“Reducing the amount that can be taken tax-free from £286,275 to £100,000, for
example, would affect about one-in-five retirees, and almost half of those who
had been employed in the public sector, but would mean about 40% of
pension wealth lost the benefit of the tax-free component,” the thinktank says.

But Adams adds that a change to the treatment of the tax-free lump sum would be
particularly unfair on people who have already built-up long-term savings for
their retirement.

“Most pensioners rely on income outside the state pension which is woefully
behind the average across Europe, and it would feel as if the government is
punishing them for taking good care of their finances,” he says.


THE END OF THE INHERITANCE TAX EXEMPTION?

Pension savings are currently excluded from someone’s estate when calculating
inheritance tax.

This means they can be passed on tax-free.

But the IFS suggests scrapping this exemption, while potentially pushing more
estates into the inheritance tax trap, could give the Treasury a boost.

“Ending this inequitable treatment could raise several hundred million pounds a
year in the short term, rising quickly thereafter, potentially to as much as £2
billion a year, though probably less, as the introduction of ‘pension freedoms’
in 2015 means more and more people will be dying with pension wealth,” says the
IFS.


WILL THE STATE PENSION AGE RISE?

The state pension age is currently 66 and is due to rise to 67 between 2026 and
2028.

A review of the state pension age was delayed in the spring and raising the age
faster could save the government money on state pension payments.

Munday warns that raising the retirement age may keep more people in the
workforce, “but it is more likely to feel like a forced measure rather than an
incentive for older workers.”


DON'T PANIC ABOUT YOUR PENSION

It is hard to plan for your retirement and put a financial plan in place when
you don’t know what the tax environment will be like in a couple of months.

But Helen Morrissey, head of retirement analysis at Hargreaves Lansdown, warns
making rash and rushed decisions can lead to regret.

For example, you may miss out on investment growth and further tax relief if you
take too much out of your pension now

“Deciding to take an income earlier than you intended because you're worried
about how the tax treatment might change could also come back to bite you,” she
says.

“Flexibly accessing your pension will trigger the money purchase annual
allowance, and this could slash the amount you can pay in from as much as
£60,000 per year to just £10,000. It’s a move that could seriously hamper your
attempts to rebuild your pension at a later date because too much has been taken
too early.”





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Marc Shoffman
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Contributing editor

Marc Shoffman is an award-winning freelance journalist specialising in business,
personal finance and property. His work has appeared in print and online
publications ranging from FT Business to The Times, Mail on Sunday and the i
newspaper. He also co-presents the In For A Penny financial planning podcast.



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