The pending pension and tax changes you should plan for now
Pension savers have been left in limbo as a number of rules changes were put on ice ahead of the General Election.
Now that Theresa May’s Tories have reached a deal with the Democratic Unionist Party (DUP), the Finance Bill will be drafted and is due to include a number of policies which were put on hold.
Richard Parkin, head of pensions policy at Fidelity International, says: “The best strategy for people who feel a bit in limbo post General Election is to work on the basis that the changes are set to go ahead as they are.”
Here are the pension and tax changes that could receive royal assent and may have an impact on your pocket:
Money Purchase Annual Allowance
People saving for their retirement can stash £40,000 into their pension pot each year while those aged 55+ have a restricted annual allowance known as the Money Purchase Annual Allowance (MPAA).
In the Autumn Statement last year, the Chancellor announced the MPAA would be cut from £10,000 a year to £4,000 from 6 April 2017, affecting around 3% of over 55s.
The move aimed to prevent the “inappropriate double tax-relief” advantage of people withdrawing money from their pension pot and recycling it back in again, gaining tax-relief a second time.
The MPAA cut was due to come into effect on 6 April 2017, but as it didn’t receive royal assent, the higher £10,000 limit still applies.
Steve Webb, director of policy at Royal London, said savers have been left in limbo after the planned cut was scrapped at short notice when the election was called.
“From the Queen’s Speech we know there is going to be a Finance Bill which will reinstate most of the Budget measures but what we still do not know is whether the cut to the MPAA will apply from April 2017 or April 2018. My view is that it would be unfair to backdate the change, but the Treasury will probably argue that people should have known that the cut was coming. Probably the easiest thing to do would be to wait until the new Finance Bill published in the coming weeks and then you will know where you stand.”
Parkin lists these practical steps for people who may be impacted by the MPAA reduction:
1) If you haven’t yet taken money from your pension but are thinking of doing so then you should consider whether you really need the money and if you need to take it from your pension. A lot of people are taking money out “just because they can” not realising the impact this can have on their future retirement plans. If your total pension contributions, including those of your employer, are more than £4,000 per annum taking anything more than the tax-free cash from your pension will limit how much you can save tax-efficiently in the future.
2) If you are already subject to the reduced allowance then you should consider reducing your personal contributions unless doing so would reduce the contributions your employer pays (these are called “matched contributions”). Making unmatched contributions in excess of the allowance means you could effectively end up paying tax twice on this money so it’s simply not worth it. But don’t just spend it. Consider diverting it to an ISA where it will grow tax-free.
3) If having reduced your unmatched contributions to zero your total contributions are still over the £4,000 allowance then you need to see what options your employer offers in relation to changing the remaining contributions. This can be complicated but the main options they might offer are as follows:
- Pay all or part of their contributions as additional salary. This may mean they won’t match your voluntary contributions and you could get a lot less than you expect as your employer will have to pay National Insurance and you will have to pay National insurance and income tax.
- Continue to match contributions you make but only into the pension scheme. If this is the only way of keeping the employer contribution it will often be worth maintaining your contributions as the benefit of the employer contribution will generally more than offset the extra tax you’ll pay.
- Continue to match contributions but pay them into another savings vehicle such as an ISA. This may be a better option than having the contributions in a pension as you won’t pay tax when you withdraw the money, but it will depend, amongst other things, on what deductions are made from the contributions for National Insurance and tax.
Parkin adds that it will rarely be in your interests to opt-out altogether if this means you’ll lose the employer contribution even if this means paying more tax. “It’s better to have part of something than 100% of nothing,” he said.
4) If you are likely to go over the allowance and incur a tax charge then you should ask your pension scheme provider if the tax charge can be paid direct from your pension. This is more tax efficient and may be easier to manage than paying the tax bill direct from your income (unless you exceed your allowance in more than one scheme). But pension schemes are not always obliged to offer this facility.
Tax relief reform
A change to pension tax relief wasn’t included in the Tory manifesto but it was widely believed that changes would be made to the relief given to pension contributions.
Webb, said: “The fact the government has such a small majority, even with the help of the DUP, means that big shake-ups of tax relief, which create lots of gainers and losers are very unlikely.
“Changes like the introduction of a flat rate of relief are probably off the table. Instead, we are likely to see more ‘salami-slicing’ of limits, with a cut to the Annual Allowance particularly likely”.
However, Parkin says that while strategically it seems any reform of pension tax relief will remain on the Conservative back burner, economic circumstances may force it on to the agenda.
“It’s difficult to predict whether this will happen so the best advice is to make the most of all the allowances while they are still around. Policy doesn’t backdate so this is a step everyone can take.”
Tax-free Dividend Allowance cut
The tax-free dividend allowance was due to be cut from £5,000 to £2,000 from April 2018, the chancellor announced in his March Budget. The measure would affect around 2.27 million individuals with an average loss of £315. Again it was shelved as a result of the General Election.
Parkin says he expect the change will still go ahead.
“It wasn’t due to come in until April 2018. In terms of mitigating it, people might want to consider switching into ISAs and/or pensions where they’re not fully making use of their £20k allowance.
“There may also be scope to split holdings across spouse and holder to get two lots of dividend allowance. Life assurance bonds are also an option as they allow gains to roll up and up to 5% a year can be taken tax-free and you could also think about switching to growth assets instead of income assets if you are not in need of income at this time.”