Pension tax-relief – a fact based argument for change.

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The change I am suggesting would turn pension taxation on its head, it would mean pension contributions would be taxed at more than 60% for high earners but that the lowest earners would be exempt from pension taxation.  Pension providers would need to pay attention to their low-earners who would become more valuable to them, providers whose models were focussed on wealth management would suffer from these proposals. Read to the end to understand why I see such change as needed.

In recent articles, I , Ros Altmann and Jo Cumbo have been grappling with pension tax reform. There are three solutions to the issues.

The first is to deny there is a problem , or at least to put off accepting we need to tackle the problem (this sounds familiar in the context of climate change).

The second is to look at a partial solution, the solution favoured by unlikely bedfellows in John Ralfe and Ros Altmann, here the key is to limit tax relief to a flat incentive.

The third is what I propose which is a phased transition from the current system where contributions get incentivised to a system where pensions are paid tax free.

In this blog, I look at the available numbers, published by the Government – that show us – on an accounting basis, how the amount that Government loses in tax relief exceeds the amount it rakes in from taxing pension saving by £35.4 bn (2017). Ros Altmann estimates that the real cost today has gone up since then to around £50bn, but I’ll stick with the lower estimate, as detailed below.

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The table has been converted to a graph which shows where the £35.4 bn is lost

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DB funding costs best part of £18bn,

The graph shows that the biggest cost by far, is the £18bn a year lost in tax revenues from employers with occupational pension schemes. This may seem odd to those who see pensions through the lens of auto-enrolment where employers pay 3% of a band of earnings and employees 5%. But in 2017 the rate was still 1+1. and more importantly, the weight of pension contributions is still with DB schemes. The deficit contributions to keep DB going are enormous, the ONS estimated that the 360 largest DB plans paid £13.5bn in special contributions in 2018 (and they paid ongoing contributions and the PPF levy on top).

DC costs to the pension system are smaller but growing

But we should also be aware that ongoing contributions to Defined benefit schemes dwarf what’s going into workplace DC plans.

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Look out for the yellow and blue blocks on the right to shoot up as the 2018 and 2019 numbers come in, that’s when the real cost of auto-enrolment to the Treasury arrives.

Lates estimates from the Treasury suggest the  cost of income tax relief for registered pension schemes in 2019/2020 will be  £20.4bn, (“income” covers personal income and corporation tax). Most of this increase is expected to come from DC

Why national insurance is so important

People and employers pay national insurance on salary and bonuses but not on pensions in payment.  Employers do not pay national insurance on contributions to pensions. Although national insurance is not a headline grabber (like income and corporation tax) it forms a big part of the £35.4bn gap between what Govt. gives up and what it grabs back



The figures in Table 6 at the top , need no graph, in terms of “give and grab”, the Government gives up £16bn in national insurance and grabs nothing back. National Insurance makes up nearly half of the gap between give and grab.

Although Table 6 is the last complete figures , we do have provisional data. The latest data from the tax office reveals national insurance relief for employer pension contributions will amount to £18.7bn, higher than the 2018/19 figure of £17.4bn, and the 2014/15 figure of  £13.8bn figure.

So what can Government do?

On the face of it, the ongoing cost of funding DB and the cost to the exchequer of lost NI revenues are the two biggest ticket items,  The DC costs are yet to feed through.

The current plan is to cap the amount of contributions that those with high net disposable incomes can make and punitively tax breaches . This is through the annual allowance, the taper and to some extent the money purchase annual allowance.  Coupled with a cap on the value of lifetime pensions benefits this has produced an increased “grab” from the wealthy illustrated below.



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But these breaches aren’t really netting much in “grab” compared with the “give” elsewhere.

What the Government has to do is to find a way to stop giving away so much upfront and boost the impact of the “give” by not grabbing back in retirement.

The reason for this is that 50% of the benefit of the current “give” is going to 10% of the population and the 90% of the rest of us , are sharing in only half that £35.4bn giveaway.

The beneficiaries of that big employer spend are those still getting DB accrual and those benefiting from DB pensions that increase each year. There is an argument that DB pensions should be liable to national insurance by way of “grab” . I don’t see such a measure as being popular, but it may be a short-term fix to keep the show on the road and pay for removing the annual allowance taper. These tinkerings are not the long-term solution

Making DB accrual benefit low-earners most.

What  needs to happen is that we need to gradually remove all the perks of accruing DB (both in the private and public sector) and charge those who are in receipt of DB accrual the cost of both the income tax and national insurance give , in exchange for paying this accrual tax free at retirement. This can be done , not by increasing payroll taxes but by offsetting the upfront tax and NI reliefs by a promise that this part of the DB accrual will be paid tax free – effectively a tax-exempt pension.

Why this works is that it redistributes the incentives to stay in to those who pay small amounts of tax and NI and takes away from those who are the big winners today, those 10% of top earners who are scooping the pool.

Preventing DC becoming a national insurance arbitrage.

As for DC, we have to be aware that most DC contributions will ultimately be paid by employers

Screenshot 2020-01-11 at 16.39.36

Employers are cottoning on to salary sacrifice/exchange and can see that they can boost pension contributions by up to a quarter by simply paying employee contributions in lieu of salary.

This graph shows how fast the switch is happening and when the vast new cohort of employers (1m +) who have recently set up workplace plans, cotton on to this, the amount of personal contributions will fall further.

If Government chooses to cap tax- relief on personal contributions to the lower rate , they will see that blue line accelerate towards zero as employer contributions protect all employees from income tax (as well as NI).

This is why a flat-rate solutions as proposed by most pension experts is flawed.

As with DB, the solution is to treat pension contributions as tax- able and liable to national insurance as if they were a benefit in kind. In the short- term, contributions could carry on getting tax-relief but would be “docked” by providers who would send the tax and national insurance  on  to HMRC.

This could mean that a higher rate tax-payer would only get around 39 p invested for £1 received by the provider. (45% income tax + 2% employee national insurance and 13.8% employer national insurance would be returned).

By contrast, 100% of the contributions for those on the lowest earnings (below both tax and national insurance thresholds would be invested.

Both the highest and lowest earners would see 100% of their savings available to them in retirement tax free, but the lower earner would benefit to the tune of 61p in the pound over his or her wealthy colleagues.

Impact on pension savings

The impact of my proposals will be extremely unpopular with most people reading this blog, who will benefit from the status quo and could stomach a flat rate incentive system.

Not only will it dramatically reduce pensions for the rich but it will slash revenue projections for many pension providers that depend for their profitability on an ad-valorem fee on wealth. Put simply , it will turn round the pensions value propositions from rich to poor, from wealth management to social insurance.

One test of this Government will be to see whether they will actually sort out pension tax relief as dramatically as  I propose. I propose that if they do, they look at incentivising people to convert their pension pots into pensions by providing tax-breaks to CDC schemes to manage people’s pensions as an alternative  to annuity, drawdown or simply cashing out the pot and putting the money in the bank.

The incentives for CDC provision could be equally geared to benefit those with small transfers so that the Government can make CDC viable for everybody, with the option for the wealthy to go their own way without imperilling the CDC scheme. As I have mentioned earlier, the first national CDC scheme could be seeded by the PPF and run by the PPF’s outstanding investment and operational teams.

I believe that in the long-term, my proposals will strengthen the UK pension system and return it to its former state of being the envy of the world. It will make pensions more inclusive and more relevant. Instead of being a “tax-wrapper” , the DC pension pot will become measurable by the CDC pension it can buy. DB pensions accrual will be valued for whom it is valuable and will increasingly be swapped for a CDC benefit based on a defined contribution.

Those who these proposals would benefit, won’t realise at first just how much they will get from this change. Those 1.7m people caught in the net-pay rip-off , don’t know how they are being ripped-off and have no voice. Those caught by the taper are the other way round, they have a loud voice and get their way.

But – with proper promotion, I believe these proposals will receive popular support. It will take a lot of time, energy and bravery to see these proposals through and the people who have most to lose from these proposals are going to be a huge barrier to change.

Those who will see the value of their future DB accrual , their future DC savings reduced, will not like my proposals. They will argue that it will destroy confidence in the pension system and many will opt-out and prefer to be paid salary in lieu.

Impact on employers

But employers will not be impacted by my proposals and will be under no obligation to feather-bed these cuts in top-earners pensions. As this system would be imposed on a national basis, the high-earners wanting out would need to find a country where they could get better. As far as I am aware, no country is currently giving away more in tax relief to the wealthy than Britain, so they will be hard pushed.

Employers will not be taxed  on their DB funding (or indeed on special contributions), they will not be impacted by the administration of the tax rebating which will fall to pension administrators not payroll.

My proposals should be welcomed by employers and their trade bodies , the CBI and the FSB alike.

Impact on the Health Service

My proposals will generate a substantial reduction in the cost of pension tax relief. It will especially negate the cost of tax-free cash (all future accrual or savings to pensions will be tax-free). The money saved can be recycled to encouraging the use of CDC pensions and to help pay for the cost of long-term care of our fast dementing  and physically detoriating elderly. This proposal will go some way towards increasing the £230bn a year we spend on the NHS.



About henry tapper

Founder of the Pension PlayPen,, partner of Stella, father of Olly . I am the Pension Plowman
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10 Responses to Pension tax-relief – a fact based argument for change.

  1. John Mather says:

    The red herring is the NHS

    The way to improve the NHS is to reduce the waste
    caused by self-inflicted diseases due to poor lifestyle habits.

    Slow suicide should be replaced by living long and dying short.
    Nutrition and exercise are subjects not taught to doctors in basic training.

    It is more accurate to call the present system the NDS
    Follow the money only pharma and food industry benefit from throwing more money
    at a dysfunctional model

    • Brian G says:

      If your proposed solution were implemented there is no remaining benefit to pensions. We may as well just have a new workplace ISA. Or everyone can have their own personal ISA where every employer and individual must place their compulsory workplace ISA contributions plus their 20k existing limits. If there is no remaining incentive to save on employer and employee tax and NI then there is no longer a point to pensions. As an individual I can see no benefit at all to your version of pensions compared to an ISA which already gives me what you are suggesting.

    • Eugen N says:

      It is hard to incentivise people to live healthy and do exercise. Personally I cannot see anything changing here. We have not manage to stop people smoking!

      The problem with NHS would become worse, especially if we cannot have a good planning and funding now.

      It is easy to blame it on Pharma, but they just respond to demand to keep people alive, and to reduce pain. As someone who looks all the time at the possibility of investing in all sectors, pharma is not on my preferred list to invest. The cost of R&D is phenomenal, and there is no guarantee that shareholders would get something back.

  2. There is a potential conflict of interests between medical consultants with lucrative private practices that indirectly benefit from NHS waiting lists. Where is the incentive to treat NHS patients quickly if that risks impacting on a steady stream of private customers?

    Big pharma have been incentivising doctors for years to prescribe their drugs – conferences in Switzerland, freebies, etc. We need a bigger marketing push for exercise and healthy eating. More common sense and research into traditional remedies. Whether herbal or similar.

    As for pensions – flat rate tax relief at 30%!

  3. Ros Altmann says:

    Dear Henry,
    Having National Insurance relief has not made sense to me since I started working on pension incentives. I did recommend to Treasury in 2015 that it should consider removing NI relief and redistributing the money saved (or at least some of it) to lower earners to boost their pensions directly. Unfortunately, the Treasury did not wish to do that, despite my warning that most newly created auto-enrolment schemes in larger or medium sized employers were being done under salary sacrifice and that would make it much harder to remove NI relief in future. That seems where we are now.
    As regards TEE, I am so sorry to fundamentally disagree with you on this issue but I really do. Making pensions tax free on receipt will destroy pensions and just leave millions of future pensioners – who have spend decades putting aside savings for retirement – poorer in later life. Unless you only allow tax-free withdrawals, for example, to pay for social care needs and all other withdrawals are taxable, what would be the point of keeping money in pensions until your 80s? The future sixty-somethings would have strong behavioural nudges to spend their whole fund quickly, just in case a future Government decided that the tax-free withdrawal status is an unfair generational transfer and they need to get extra revenue, or to stop the pension funds being emptied quickly. With the current tax-free cash, even though the most sensible thing for most people from a financial perspective is to leave their pension untouched until they need it, almost everyone takes their tax free cash quickly, and many of them spend it on consumer durables, or holidays, or just put it in a bank account, just because it is tax-free and may not remain so. In future, your tax-free pension fund would be gone before it is most needed and people would fall back on means-tested benefits or would just be poorer and have less money to spend. One could build in an incentive to save for social care and use pensions as a tax-free care fund, in which other withdrawals are taxable. One could lock in the fund and only allow phased annual withdrawals up to a limit. But quite frankly I think the idea of giving an up front bonus, allowing that to build up tax-free, and then imposing some exchequer revenue in retirement (even a flat-rate pension tax can be considered) would preserve the behavioural sense of the current system. We must not, absolutely must not, turn pensions into ISAs. There are better ways to run pensions, please let’s discuss this and think about the long-term policy implications, not just short-term. I have huge respect for you Henry and admire the work you are doing, but on this issue there are some really important policy traps that we must be aware of.

    • henry tapper says:

      On the fear of future (double) taxation, I hear the same from those i know and respect (Steve Bee among others). I am not convinced that people will spend their retirement savings rather than risk them being taxed, though I take your point about people banking TFC today. There is the same fear around CDC and future Government’s behaviour.

      Unless we can trust Government to be fair in future, I don’t see how we can accept change. But you are closer to Government to me – and your worry should be my worry!

      But I do see ways of encouraging rather than mandating good behaviour, after all enrolment is optional and no one thought over 90% of us would stay in.

      What is needed is bold Government and if we can’t get bold Government now, we’ll never get it.

  4. Terence P. O'Halloran says:

    Rather than simply present an immediate reaction to your blog, Henry, coupled with Ros Altman‘s paper on the future of pensions in the United Kingdom we have rather settled down to some genuine research and between Eleanor Downie, in consultation with myself, we give our consolidated view below.

    We both have over 45 years of individual experience and Eleanor has, for the last five years, been advising with the local Citizens Advice Bureau as an addition to that collective experience. Most of that work is pensions and benefits related. Eleanor is a backroom Pensions Guru and erstwhile business partner to me engaged directly with the public. I listen to her and we believe that our current crop of politicians and academic consultants are creating a great deal of damage to individual pension rights through ill-informed interference in return for considerable fees paid to ‘consultants’. If Dame Ros Altman along with Henry do likewise, they are in danger of creating mischief, seemingly without realising it. Our Rule 1 is “never confuse interference with assistance”; the cost, as we have seen with ‘Pension Freedom’, is just to highly explosive to contemplate.

    As Fellows of the Chartered Insurance Institute and ‘Chartered’ individuals we presented to groups of employees of all shapes and sizes on the subject of pensions, their pensions. We dealt with members individually as required involving firms with up to 120 employees (the largest cohort of employers).

    Our experience of large actuarial firms has been that they purported to advise the rank and file of the say 2700 employees of the large Lincoln company that they provided pensions to. The problem was that they failed to communicate with, let alone understand, the individual members and only ever consulted with the top management of that company. Individuals on salaries of £8,000 to £50,000 per year were seldom, if ever, spoken to from one decade to another. How could the advisory entity appreciate the employees thoughts and aspirations? What basis for advising government did those actuaries and national firms of accountants have?

    We dealt with some 30 of the employees of that large firm and their comments were all similar. They never saw anyone from the adviser company. In the light of that fact many ‘experts’ do not share in our experience nor our understanding of the degradation and destruction of the pensions industry in the United Kingdom since 1986 when it was at its peak.

    Eleanor and I could well have something fundamental to present to the current discussion. We are in unison with the following comments. The challenge is, does Henry have the will to publish, and more importantly perhaps, pursue a different path. We hope that at least he and Ros will air our views and establish any consensus or disagreement. In that way we may all learn from each other and find an acceptable common-sense way forward.

    We managed to log on to Ros Altmann’s website “Pensions and Savings .com” which showed her comments but not the responses under the blog.

    Ros Altman obviously wants to eliminate higher tax relief on pension contributions, but are there are bigger issues to consider first?

    A lot of the current problems have arisen because of the government “tinkering” with the system without really knowing what the consequences might be.

    Allowing members/policyholders to take the whole of their pension pot as cash, even with tax on 75% of the fund, is one of these anomalies. It was a ruse to raise revenue, nothing else (a sop to the very rich? maybe?) Access to a personal pension fund should only be permitted for small pots with an upper limit . The previous ‘pensions triviality limit’ was £18,000 from all sources. If this was increased to £20,000 with inflation proofing into the future it would have been a reasonable figure.

    The discussion about whether the whole tax basis of the pension system should be changed from the current system of EET to TEE is nonsensical as long as the total fund can be taken as cash. A transitional change over time is suggested but that would need to be a generational time scale or there would still be individuals who had been given tax relief on the early years contributions who at a later date could receive the whole resulting fund tax free.

    Tax relief is an encouragement to save which, together with investment returns being mainly tax free (apart from the circa £5.4 billion tax receipts per year to government following Gordon Brown’s removal of ACT relief [to fill government coffers] at pensioners expense in 1997). That bounty to the government pertains to this day. For employees, an employer’s contribution gives encouragement for long term investment for retirement, rather than short term expenditure if it is drawn down. Without those incentives there is little argument to invest in pensions as opposed to ISAs.

    We are not convinced that a change to TEE from EET would benefit the lower earners compared with the higher earners. The comparison with LAPR and MIRAS is not relevant – they applied to a completely different type of tax relief.

    Non tax payers and low income individuals receive an uplift on their savings with the tax relief as do employers contributions under the NEST automatic enrolment schemes. However part time earners, particularly women, fall under the entry thresholds and therefore do not qualify for the relief.

    Turning to the NHS – the limits relate to both highly paid medical staff and administrative executives. We do not for a minute think that it affects their productivity. We believe that is disingenuous to those involved to make those assertions. We do believe that some staff have refused promotion and others have limited overtime to prevent limits being breached. However, the rules are so complicated that we are sure that most health staff are unaware most of the time about whether, and or how, they are affected. Mischief makers are at work and your own and Ros Altman’s contribution is unhelpful in this regard.

    If readers google Lifetime Allowance (LA) and Tapered Annual Allowance (TAA) under the NHS pension – on website then there is information relating to both.

    The lifetime allowance is £1,055,000 w.e.f 06/04/2019 and any excess is taxed at 55%. (The original allowance given under pensions simplification has been reduced – the current level seems to be subject to annual inflation proofing.)

    The Tapered Annual Allowance (TAA) was not introduced until April 2016, as a way to reduce the annual allowance for contributions from £40,000 and above. It is applicable to those earning over £150,000 with the rate of reduction on the £40,000 at £1 for each £2 that the adjusted income is above TAA. TAA gives a maximum reduction down to £30,000 at earnings of £210,000. These constitute considerable earnings when median earnings amount to £26,500 per household or thereabouts.

    We have looked back to what the original limits were when so called pension simplification was introduced. In the tax year 2006/7 Lifetime Allowance (LA) was £1,500,000 & the Annual Allowance (AA) £215,000. These were incremented year by year such that in 2010/11 they stood at £1,800,000 for LA & £255,000 for AA.

    In 2012/13 there was a reduction to £1,500,000 for LA & £50,000 for AA.

    A further reduction occurred in 2014/15 to £1,250,00 for LA & £40,000 for AA.

    In 2016/17 a further reduction brought LA down to £1,000,000 and AA stayed at £40,000. These figures appear to have become the new base with increments on the LA up to £1,030,000 in 2018/19 and £1,055,000 in 2019/20.

    The original increments between 2006 and 2010 were perhaps too high but the subsequent reductions were overly harsh and certainly contribute to the current problems. Even under the banner of ‘austerity’ it is not fair to fluctuate the figures in this way for people who are encouraged to plan their pension provision. One thing is for certain; the values now are worth considerably less than when all this started back in 2006 when there were transitional protections for existing investors under Fixed Protection. Those protections required the individual to make a personal application under the original rules and that had to be completed by April 2012 as far as we are aware.

    There is an interesting document on the web referring to the previous paragraph’s topic – “Royal London Policy Paper 31”. Your blog enthusiasts would do well to review it. It appears that pensions simplification which was supposed to have been the basis for a stable position on pensions for some time to come has been “fiddled with” year by year by the government and resulted in the ‘usual’ ultimate chaos.

    Eleanor’s CAB work intimates that at present, where tax charges arise, these are being paid by the Health Authority employer. That is unhelpful in almost every fiscal aspect of the problem, quite apart from any moral intimations. We are not sure what the situation is for a consultant with private earnings which may be the cause of the individual’s problem.

    In principle we do not really feel that if an individual is earning in excess of £100,000 then a tax liability should be paid by their employer. Therefore the tax position needs to be reconsidered and made simpler by government diktat for all earners; not just a favoured group by subterfuge. If the answer was the elimination of higher rate tax relief against pension contributions; that would remove the anomalies from TAA and if this was combined with an increase in the LA to at least £1,500,000 and AA to at least £50,000 as the new bases with future inflation proofing, it would help resolve some of the issues.

    Then this comes back to the first comment relative to healthcare which is massively underfunded both for the NHS and long-term care areas. Chronic health conditions in later life tend to fall between the NHS and residential care or home support (long term care).

    However long-term care is effectively required to be funded by local authorities in England, depending on the means testing of an individual’s assets. Only in certain circumstances is it paid for by the NHS. Local authorities have had their funding cut on a regular basis so that there is a problem to be thought through.

    The reallocation of money no longer used for pension tax relief (if high rate relief was removed) does not necessarily automatically help long term care as it will be in a different pot, national government coffers as opposed to Local Authority coffers.

    A tax change may assist the NHS but has any consideration been given to the fact that the collective pots of money in private pensions, funded on the basis of long term and (prior to pension freedom introduction) known exit dates, provides liquidity to the majority of large commercial entities through loans and share ownership without which many of those enterprises tasked with future development and employment growth would be severely impaired? Or perhaps THAT may be the political target? We could not be that cynical, could we?

    Those are our thoughts on the documents under discussion.

    Eleanor Downie FCII, ChIP. and Terence P. O’Halloran FCII, B.Sc., ChFP.

  5. Tapered annual allowance falls to £10k a year on income of £210k a year and above. I think you have mis-typed Terence. Fully agree that unintended consequences of well meant legislation has killed good employer sponsored pension provision as well as short term-ism and marking to market.

    It was the Tories that first taxed (at 5%) corporation tax rebates. Gordon Brown just quadrupled it!

  6. Pingback: 90 years of experience on pension taxation. | AgeWage: Making your money work as hard as you do

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