After setting out his 4 E’s for Economic Growth, including Employment, there are reports that the Chancellor is considering changing certain pension tax rules. Here, Steven Cameron, Pensions Director at Aegon, sets out 3 aspects of pension tax rules that currently discourage work.
“With economic inactivity amongst over 50s worryingly high, we support any measures the Government can make to encourage this group to return to work. This would be positive not just for economic growth but for the finances of these individuals in their later life.
“As part of this, pension tax rules need overhauled including the lifetime allowance, the annual allowance and the little known Money Purchase Annual Allowance.
“The lifetime allowance is the maximum individuals can build up in their pension without facing a tax penalty. After being cut back severely a few years ago, it now sits at £1.073 million and has been frozen at that level until 2026. With skyrocketing inflation, this means it is worth less year on year. While it may seem high, more individuals who would not class themselves as wealthy are finding they have reached the limit. This is most likely if they have a generous final salary pension, which are now mainly in the public sector. It is one reason some highly paid doctors have left the workforce. We would like the Chancellor to make an immediate increase in the limit to say £1.5 million and to reinstate inflation linked increases thereafter. This would remove the threat of tax penalties arising from further employment and added pension rights.
“Another limit is the Annual Allowance which limits pension contributions from the individual and their employer to £40,000 a year or earnings if less. Again this may seem high but some individuals in defined benefit pensions may find the value of an extra year of pension benefit is valued at above this, particularly if they receive a significant pay increase for example on a promotion. The Government might allow more flexibility than currently exists before levying tax penalties.
“Many individuals over 55 who have taken income ‘flexibly’ from their money purchase pension may not realise that by doing so, they become subject to the little known Money Purchase Annual Allowance. They may have done so because they have stopped work or to tide them over during the pandemic or the current cost of living crisis. Unfortunately, it means the most they and their employer can pay into a pension in future, including if they return to work, is just £4000 a year. This means many are unable to take advantage of full pension entitlements and won’t be able to rebuild their pension pot for a later retirement. An increase to £10,000 would make it far less likely that individuals would be affected here.
“If the Chancellor truly wants to send a message to over 55s who have left the workforce that ‘your country needs you’, then pensions tax rules need to be updated to reflect today’s world of work. While this might mean a little less tax is collected, it could generate much more if encouraging more employment participation.”