High Earners Must Act Now on Pension Tax Relief

Given Chancellor Rachel Reeves’ statement on public finances two weeks ago suggesting that she has inherited a spending ‘blackhole’ from the previous government stating: “it means, Mr Speaker, that I have inherited a projected overspend of £22bn”, there has been much speculation this week about what tax revenues can be raised to cover any blackhole as well as large, additional spends on wage increases for emergency services workers such as the NHS and Police.

Capital Gains Tax (CGT):

Appears to be the lowest hanging fruit and the easiest to change, but not attacking working peoples’ taxes.

• The CGT annual allowance has already been cut from £12,400 to £6,000 and now to £3,000. This could easily be removed.
• CGT tax rates are currently 10% (taxable gains within basic rate tax band) and 20% (taxable gains within higher rate tax band and above) for non-residential property investments and 18% (gains within basic rate tax band) and 24% (gains within higher rate tax band and above).  There is much speculation that capital gains tax rates will be increased to normal income tax rates and bands.

Inheritance Tax (IHT):

According to the House of Commons Library of debates (March 2024), only 27,000 of all estates (3.73% of deaths) paid inheritance tax in 2020/21.  Most transfers of wealth are between spouses (no tax) and thereafter most estates fall below inheritance tax allowances on 2^nd death.  Given IHT receipts are increasing but will likely still be around £9bn for tax year 2024/25, this seems so little in tax revenue for so complex an area of finances at a difficult and stressful time for loved ones.

• Gifts and 7 Year Rule – these could be overhauled given an annual gifting allowance of £3,000pa plus special gift allowances for weddings etc are available today but the ‘lowest hanging fruit’ we suggest is the 7-year gifting rule, where if you survive for 7 years after making a gift, it falls outside your estate.  Labour could amend gifting rules so that the recipient of the gift pays tax on receipt rather than the donor’s estate being increased to include the gift if they die within 7 years.  This would bring immediate revenue
• Abolish IHT – New Wealth Tax:  We already know that the new Labour government was drawing up options for a new wealth tax before the general election.  Depending upon the level of tax, the University of Warwick calculated that a wealth tax of 0.17% pa for wealth over £500,000 would raise £10bn per year or a ‘one off’ wealth tax over 5 years of 0.95% pa would raise an astonishing £250bn. 

Pension Tax Relief

It was originally when George Osborne was Chancellor, before the Brexit Referendum, that papers were drawn up for a full review of the pensions area with speculation of a single rate of tax relief on pension contributions of 30% rather than tax relief based upon your highest rate of income taxes.  This review was ‘shelved’ after the Brexit vote, but clearly the works carried our are still there.  It is already known today and was part of the Labour Party Manifesto that Labour will conduct a full review of the pensions area and again the 30% single rate of tax relief is back on the agenda.  This will clearly encourage basic rate taxpayers to save more in pensions but also save money by reducing tax relief from 40% and 45% of higher and additional rate taxpayers.

• Basic rate taxpayers would receive an extra 10% relief.
• Higher rate taxpayers would suffer a fall of 10% in relief.
• Additional rate taxpayers would suffer a fall of 15% in relief.
• The Institute of Fiscal Studies suggests this would increase tax revenue £2.7bn, so it is clearly an option.
• In addition, it would simply administration of pension schemes with 30% relief at source for private contributions and would reduce the number of tax refunds and HMRC administration where higher earners were reclaiming additional relief via self assessment. 
• That said, it remains to be seen how ‘net pay’ workplace pensions would cope with this.  We suggest a simple move would be that all employee and personal contributions are deducted from your net pay, rather than gross pay and then when the pension provider receives the contribution, they add 30% at source.

Pension Assets

The British Business Bank (owned by the government) is tasked with investing money in British businesses to build the economy and could receive a windfall by opening up BBB investment funds to the huge workplace pensions market as well as encouraging growth in the UK economy. 

• It is estimated that £2trillion is invested inside UK pension schemes.
• The former Chancellor Jeremy Hunt planned to introduce new rules to force UK pension funds to disclose the amount they have invested in the UK as well as setting a minimum % invested in UK assets. 
• New Chancellor Angela Reeves has already suggested that a similar plan via Labour could unlock another £8bn of new investment in the UK economy.
• The World is becoming more insular/protectionist, and it makes sense for UK money to invest in UK assets to growth the UK economy.

Comment

We believe it is almost certain that CGT rates will rise, pension tax relief will move to a flat rate and UK pension funds will be forced to invest more in the UK economy.

Action Point:  Higher Rate and Additional Rate taxpayers should consider maximising pension contributions now whilst they can achieve 40% and 45% tax relief respectively on pension contributions.