Election 2015: Why high earners should consider bringing forward pension contributions
With the General Election just weeks away, the Conservative, Labour and Liberal Democrat parties have all now published their manifestos. And in each case, it should be noted that these parties have, in effect, proposed reducing pension tax reliefs for higher earners.
Therefore, while opinion polls point towards another hung parliament which may result in another Coalition where no one party will get to fully implement its manifesto promises, the common ground on this area means it is all but inevitable that the current level of pension reliefs for those earning in excess of £150,000 per annum is set to be reduced.
What the manifestos say:
Conservatives: “We will take the family home out of tax for all but the richest by increasing the effective Inheritance Tax threshold for married couples and civil partners to £1 million, with a new transferrable main residence allowance of £175,000 per person. This will be paid for by reducing the tax relief on pension contributions for people earning more than £150,000.”
Labour: “Labour will cut tuition fees from £9,000 to £6,000 a year, funded by restricting tax relief on pension contributions for the highest earners and clamping down on tax avoidance.”
Liberal Democrats: “Establish a review to consider the case for, and practical implications of, introducing a single rate of tax relief for pensions, which would be designed to be simpler and fairer and which would be set more generously than the current 20% basic rate relief.”
In interviews, the Conservatives have indicated that they intend to reduce the current £40,000 annual pension allowance for anyone earning over £150,000 on a sliding scale down to just £10,000 pa for those earning £210,000 or more. Labour have said they will reduce the annual pension allowance for everyone from £40,000 to £30,000 and that for those earning £150,000 upwards, tax relief on contributions will be reduced to 20%. Liberal Democrat pensions minister Steve Webb has previously floated the idea of a flat rate of pension relief at 30%.
All three parties support the policy announced in the recent Budget of reducing the pensions Lifetime Allowance (the maximum value of total pension pots, above which a punitive tax charge applies when benefits are taken) to £1 million.
Current pension reliefs are very attractive for high earners
Under current rules, those contributing to a pension receive effective relief at their marginal income tax rate through a combination of their contribution being “topped up” by the State by 20% and then, if the investor pays tax at the 40% or 45% rates, reclaim of further tax on their annual return. This means that for the highest earners who are subject to the 45% tax band for earnings in excess of £150,000 per annum, pension contributions can receive up to 45% tax relief so that a £40,000 pension contribution (the maximum allowed this tax year) could only cost them £22,000 after the reliefs.
Additionally, under current rules an investor who has not fully utilised their annual pension contribution allowances from the three previous years, can also mop these up (starting with unutilised allowances from the earliest year) once they have fully used the current £40,000 gross contribution allowance with the combined contributions counting against their income tax liability in the current year . This ability to mop up unused past pension allowances is known as carry forward. A high earner who has not fully utilised either their pension allowances this year or in the preceding three years may be able to make a contribution of up to £180,000 and, if the entire contribution attracted relief at 45%, the net cost of this substantial investment would be £99,000 with up to £81,000 received in reliefs. Carry forward is a complex area and those looking to explore it should consider financial advice.
What should higher earners consider doing now?
While the policies of the Conservatives, Labour and Liberal Democrats differ on how they will change pension tax reliefs, they all in effect appear to advocate a reduction the attractiveness of current pension contribution reliefs for those earning £150,000 or more. Those investors potentially impacted should therefore carefully consider whether they should act sooner rather than later in bringing forward any planned contributions.
There is clearly a great deal of uncertainty as to the outcome of the General Election and the final policies that the next Government will introduce, let alone when any future policy will become effective. In our view a new Government would probably implement an emergency Budget within weeks of forming a new Government. While there is a possibility that any changes to reliefs could be made retrospective to the start of the 2015/16 tax year, this would be highly unusual and subject to challenge. Changes to tax allowances, including pension allowances, typically take effect from the start of the following tax year, though changes to other forms of taxation, such as exercise duty, are normally taken with immediate effect from a Budget.
Investors wanting to utilise their pension allowances ahead of the General Election or a future emergency Budget and who are happy to manage their own investments, can do so easily, by opening or topping up a Best SIPP account online.
Those wanting to explore their options in further detail, including pensions carry forward or the implications of the reduced Lifetime Allowance might consider a free consultation with one of the expert financial planners based across the UK.*
The value of investments, and the income derived from them, can go down as well as up and you can get back less than you originally invested. This article does not constitute personal advice. If you are in doubt as to the suitability of an investment please contact one of our advisers. Past performance is not a guide to future performance. Prevailing tax rates and reliefs are dependent on your individual circumstances and are subject to change.
SIPPs are not suitable for everyone. If you don’t want to invest across different asset classes or don’t think you will make use of the investment choices that SIPPs give you then a SIPP might not be right for you. Self-directed investors should regularly review their SIPP portfolio, or seek professional advice, to ensure that the underlying investments remain in line with their pension objectives.
*Advice fees are payable. This will be discussed and if appropriate, agreed with you during the initial consultation.