Government support can tackle retirement poverty

The coro­n­avirus pan­dem­ic has opened up a sub­stan­tial hole in the bud­get as the gov­ern­ment has pro­vid­ed vital sup­port for busi­ness­es, pub­lic ser­vices and indi­vid­u­als. There has been much spec­u­la­tion in recent weeks about how this will be paid for and pen­sions tax relief is report­ed­ly under review by chan­cel­lor Rishi Sunak.

Speak­ing from a pen­sions’ per­spec­tive, we would pre­fer that gov­ern­ment find some oth­er way to find the funds. But if the gov­ern­ment does choose to raise them from pen­sions, we would like to empha­sise the amounts avail­able are less than often quot­ed and the con­se­quences less appeal­ing.

Under the cur­rent rules, which are designed to incen­tivise peo­ple to lock mon­ey away for their retire­ment, most savers pay no income tax on any earn­ings they con­tribute towards a pen­sion. How­ev­er, apart from a 25 per cent tax free lump sum, they do pay income tax when they come to draw it. So, the fig­ures quot­ed are not all that they seem.

The real cost of pensions tax relief

It’s often said that pen­sions tax relief “costs” the gov­ern­ment about £40 bil­lion a year. The impli­ca­tion is that if the gov­ern­ment changed the rules on pen­sions tax relief, they could save a sig­nif­i­cant pro­por­tion of this sum of mon­ey. The real­i­ty is far from this.

About 40 per cent of the amount is allo­cat­ed to pub­lic sec­tor pen­sion schemes so, if the gov­ern­ment did reduce fis­cal sup­port, it is more like­ly than not that the employ­ers involved might make up some or all of the result­ing fall in take-home pay for the senior nurs­es, doc­tors and head teach­ers affect­ed, espe­cial­ly if we are still bat­tling COVID-19. Obvi­ous­ly, any addi­tion­al fund­ing would have to come from the pub­lic purse.

Around 20 per cent of the sum is tax not levied on employ­ers who are mak­ing up the pen­sion deficits in tra­di­tion­al final salary schemes. These con­tri­bu­tions are gen­er­al­ly used to make sure pen­sion promis­es, to for­mer and cur­rent employ­ees for work done in the past, are hon­oured. Amend­ing this part of the regime would sim­ply add a tax on busi­ness and make the pen­sions of mil­lions of peo­ple less secure.

The remain­der goes to the minor­i­ty of peo­ple in the pri­vate sec­tor that are con­tribut­ing to a final salary pen­sion and the many mil­lions of oth­ers, near­ly all in the pri­vate sec­tor, who have a mon­ey pur­chase or defined con­tri­bu­tion pen­sion. We esti­mate the total sav­ings to gov­ern­ment avail­able from this part of pen­sion sav­ing is under half of the £40 bil­lion so often quot­ed and, of course, the gov­ern­ment would not want to remove all sup­port from peo­ple sav­ing for retire­ment. So, the total “sav­ings” for the pub­lic purse will be far, far low­er.

UK citizens not saving enough for retirement

Reduc­ing fis­cal sup­port might be a rea­son­able approach if peo­ple in the UK are already sav­ing enough for retire­ment. How­ev­er, this is not the case.

In 2016, the Pen­sions and Life­time Sav­ings Asso­ci­a­tion (PLSA) under­took a research project that exam­ined the like­li­hood that cur­rent work­ers would have a pen­sion equiv­a­lent to the pen­sion tar­gets iden­ti­fied by the 2006 Pen­sions Com­mis­sion.

Using their tar­gets, the PLSA’s research found that just over 50 per cent of the work­ing pop­u­la­tion, or 13.6 mil­lion peo­ple, were at high risk of fail­ing to meet their tar­get replace­ment rate. More­over, it is the mid­dle-aged savers of Gen­er­a­tion X, today aged around 40 to 55, and the young mil­len­ni­als, aged around 25 to 39, who are most like­ly to be not sav­ing enough.

So the gov­ern­ment should think very care­ful­ly before reduc­ing the amount of sup­port it pro­vides for pen­sion sav­ing.

How­ev­er, if the gov­ern­ment is deter­mined to alter pen­sions tax relief, then we would urge them to ensure that any change is pri­mar­i­ly designed to help peo­ple save enough for retire­ment. Ide­al­ly, any change would also be sim­ple to adopt and admin­is­ter and should be sus­tain­able over the long term. Every­one knows that the cur­rent sys­tem is not per­fect, so the pen­sions sec­tor is open to con­sid­er how it can be improved. But let’s keep our eyes on the prize: every­one hav­ing an ade­quate income in retire­ment.