Why higher rate pensions tax relief is here to stay

The Treasury is reportedly discussing plans to axe higher rate tax (HRT) relief on pensions altogether, but PwC partner Marc Hommel says reform is not on the cards.

The discussions claimed tax relief could be cut for all those who pay income tax at the 40% and 50% rate creating a £7bn windfall for the Treasury.

Despite this, Hommel said it is "highly unlikely" there would be further changes to pensions tax relief in the short-term.

He said: "After endless tinkering to pensions tax and regulation in recent years, and significant changes just introduced this past April, we have been all but promised a period of stability.

"Any further changes could see employers and workers walking away from workplace pensions in droves, with trust in the sustainability of the pensions framework further undermined."

Hommel laid out the facts around tax on pensions savings:

1) Limiting all tax relief on pension contributions to the basic rate of tax was an important part of the Liberal Democrats' manifesto .

The LibDems claimed it would raise £5.4bn of taxes at 2011/12 prices.

2) Restricting tax relief to the basic rate of tax is already on the statute books in the form of the High Income Excess Relief Charge for those with income over £150,000.

This was the legislation that the previous government introduced but which was never implemented and was replaced by a reduced Annual Allowance. The relevant legislation, put in place by the Finance Act 2010, is due to be repealed by the current Finance Bill.

3) Imposing HIERC on a small group of high-income taxpayers would have been complex.

The idea to axe all higher-rate tax relief would impose this complexity on a much wider group of people.

4) Balancing out present and future income tax revenues

Like reducing the annual allowance, a restriction of tax relief to the basic rate, or even abolishing tax relief altogether, drags income tax forward to today at the expense of income tax for future governments on the retirement pensions that today's workers might accrue.

5. There are other ways to extract more taxes from pension savings.

In the Republic of Ireland there are two further taxes, one in force and the other proposed:

i) A proposal to levy a stamp duty tax of 0.6% on the funds of all tax-approved pension schemes for four years from 2011 to 2014. This is a tax equal to 2.4% of the funds in pension schemes as at 1 January 2011.

ii) Pension commencement lump sums are only tax-free up to €200,000 (£177,000). Above that amount the lump sum is taxable.

Amount of lump sum income tax rate

€0 - €200,000: 0%
€200,001 - €575,000: 20%
€575,001 plus: Taxpayer's marginal tax rate