Ros Altmann is bang on the money when proposing we link healthcare and pensions in her most recent blog
The big picture policy issue for the UK is how to afford a healthcare system that is free at the point of delivery for everyone, including those who suffer chronic health problems in later life.
It is not impossible to see a realignment of Government departments so that we have a department of work and savings and another for health and pensions. If work is how we save, then health is what we spend those savings on. That goes for private individuals who transfer through their pension pots , as much as it does for Government which uses the mechanism of taxation.
Bravely, Altmann is confronting the biggest elephant roaming the state rooms.
- Could Government commitment to sort out NHS pensions herald radical pension reform?
- NHS problems are canary in the coalmine showing need to urgently change pensions tax rules.
- Tapered Annual Allowance and Lifetime Allowance should be changed or abolished.
- Reforming the £50billion annual cost of pensions tax reliefs (which gives top earners most help) could raise much-needed revenue AND improve pension outcomes.
Most people in the NHS and in pensions are aware of the local problem the Annual Allowance taper is giving high-earning clinicians in the NHS, a broken pension tax system is creating a drop in productivity amongst our most valuable doctors.
The Government has proposed a fix to the AA-taper issue which will be announced on budget day- March 11th
— Josephine Cumbo (@JosephineCumbo) January 7, 2020
2019/20. The majority (£132.3 billion) of this is revenue funding for spending on day-to-day items such as staff salaries and medicines. (source Kings fund).
This cost of the NHS is set to escalate and part of that escalation will be the cost of refunding monies to doctors who – because of pensions – are finding themselves paying tax on slices of their earnings in excess of 80%.
The elephant that roams the state rooms is bellowing that if we want a world-class national health system, we are going to have to find more money to pay for it. It is also bellowing that the way we are organising pension incentives does not result in alleviating the problems of old age. It results in massive wealth accumulation for the richest in society and it results in low and middle earners finding they have to sell their houses to live in residential care homes.
In short, tax-relief isn’t working and the funding of chronic care for the elderly isn’t working either. We should kill two birds with one stone.
What Ros Altmann is proposing
In her blog, Ros Altmann discusses three options for the Government to reform pension tax-relief to make it less regressive and to free up resources for other things (the NHS is clearly another thing).
The first isn’t controversial, it involves changing complicated tax -reliefs to a flat rate “one nation” savings incentive where the top-up is set by the Government . A variant of this is simply to abolish higher-rate tax relief though this still poses problems as there are still two rates of tax for the lower earners (20% and 0%).
The second is controversial as it converts auto-enrolment into a compulsory pension contribution system. This would render pension contributions a tax on earnings – albeit highly hypothecated as we bet the tax back with interest later in life. It would mean that Government could do away with tax-relief – reducing the £50bn considerably.
For either of these measures to work, the tax reliefs would have to be abolished not just for savers, but for sponsors, otherwise savers would just elect to have their sponsors pay their pension contributions (as happens with salary exchange).
This simple avoidance measure has stood in the way of partial tax-reforms. It also stands in the way of Ros Altmann’s proposals for it effectively makes pensions a business tax, it is far easier for an employer to pay salary and write it off against corporation tax than pay pensions and not.
To counter this problem, Ros suggests that it is only the auto-enrolment levels of contribution that need be made compulsory (5% from savers and 3% from sponsoring employers). Above those levels Ros Altmann proposes a voluntary incentivised system with a flat rate incentive for all.
But even here, the temptation will be for the contributions to come solely for employers, even if salary sacrifice/exchange for pension contributions were to be abolished, it is hard to see how scheme rules or employment contracts could be barred from offering non-contributory pensions which would effectively reduce tax-bills (and tax-revenues) to what was paid before the changes.
The third way is Ros’ worst way!
Ros Altmann accepts that there is a third way and she isn’t afraid to talk about it in her blog. She dismisses it as the “worst way”
Turning pension incentives into ISA-style saving would be hugely damaging: Importantly, it would be damaging to replace the current tax relief incentives structure with an ISA-style regime
The biggest issue for Government is not the popularity of ISA style pensions (people like the certainty of ISA taxation) . It is the unpopularity of what they’d do to people’s salaries.
If we were to tax pensions as a benefit in kind – as we tax corporate sponsorship of ISAs, then every pound paid into a pension would reduce take-home by between 0 and 45% of the pension contribution. While it might be argued that this would result in tax-free pensions (under a Taxed- Exempt – Exempt) formulation, the damage this would do to people’s immediate standard of living would be unacceptable.
This is why Osbourne and Cameron were unprepared to put forward such a radical measure before the Brexit vote in 2015/16.
Pension contributions taxed at source?
There is a way to soften the blow and to introduce TEE in stages, it involves an extension of scheme pays to all pensions and would mean that pension administrators would be sending back to HMRC the part of the contributions they received that were deemed to have arisen from tax relief. This would be a major change and could only work with Real Time Information from HMRC, informing pension administrators and real time payment systems meaning that pension contributions were taxed at source.
It would mean that people’s take home would remain unaltered , but that their investable contributions would be reduced at their marginal tax-rate – whether they came from employer or from them.
Having mulled this idea for four years, it is the only solution that I have seen to the fundamental issues faced by the Government.
TEE would change our taxation system from one where around half is allocated to the top 10% of earners, to one where the pension contribution system favoured the low-earner. There would be minimal impact on DB pensions for the poorest, but future accrual for those in higher tax-brackets would be curtailed. Many high earners would prefer to be paid salary than pension though there could still be marginal advantages for the TEE system, based on national insurance savings which could still prefer pension contributions.
I don’t propose that this mechanism should las for ever, it is artificial and will be messy. It’s purpose would be to transition us from EET to TEE and it should be phased out in a decade. Like MIRAS in reverse, pension contributions should begin to be taxed at a lower rate and gradually direct taxation on “contributions as pay” should be phased in. As direct taxation increases, secondary taxation through the scheme pays mechanism should reduce.
In ten years time, we might barely remember the days of EET, as we have forgotten the days of LAPR , MIRAS and other unnecessary fiscal incentives.
Radical change in pensions must mean radical improvements to the NHS and Long Term Care
I am so close in my thinking to Ros Altmann, that I do not want this blog to seem critical of her position. As always she is saying the things that others do not dare. She is pointing to a new contract between workers, Government, pensioners and the NHS and demanding that the rampaging elephants is tamed. The neglect of successive Governments to reform pension taxation is only making the matter worse. Reform must come , but it must be true and simple and it must be reform that can survive the attempts of tax-specialists to get round it with complicated avoidance systems,
We must not give way to arguments that say that if we move to a more progressive tax-system, we simply drive the rich offshore. The rich will stay onshore provided they see that there are real societal benefits to this approach. The quid per quo for giving up the current taxation system must be a commitment to reform the funding of long term healthcare so we move towards what has happened in Scotland where people do not fear extreme old age as taking from them their house, their savings and their dignity.
The only acceptable solution to the problems we have with an ageing society is to spend massively on keeping the old comfortable and in dignity in their final years. This can best be achieved by requiring us to pay more while at work for this benefit.
The £50bn a year we lose in tax revenues so that rich people get wealthier in retirement is regressive. We need to move to a system that is progressive and I don’t think that Ros’s first two/three proposals do this in a meaningful way. They will simply be a charter to employee benefit specialists to circumvent the rules.
The fundamental reform that I favour (and Ros does not) is as firm as the blockchain. TEE is black and white. The means of dealing with the cashflow implications of transition from EET can be dealt with contribution taxation using the scheme pays methodology. All that is missing is the sharp intake of breath that is needed when a Government really goes for it.
This Government is in a better position than any other this century to make these changes . I have no voice like Ros Altmann’s , so I will ask her to join this debate with me. Ros , you are very welcome to my platform, please feel free to tell me why I’m wrong!