Calls for pension reforms as more savers dragged into 55% tax band

State pension: Pensioner asks ‘who’s going to pay?’

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While the country waits in anticipation for new Chancellor Jeremy Hunt to unveil the Autumn Statement on November 17, speculation is growing around what measures could be announced. With intentions to fill a £50billion “fiscal black hole” caused by Liz Truss and Kwasi Kwarteng’s disastrous mini-budget, many people fear pension policies could be one of those to be adversely affected.

Calculations from interactive investor show that a 45-year-old higher-rate taxpayer with a £300,000 pension pot, who contributes £1,000 a month would hit the pensions lifetime allowance (LTA) limit after 15 years, assuming a five percent per year growth. A lower-rate taxpayer would hit the cap after 17 years.

Myron Jobson, senior personal finance analyst at interactive investor, commented: “With speculation growing about potential cuts in income tax relief on higher rate taxpayers, faith in the pensions system is shaky at best for many, and is causing palpable anxiety.

“The potential extension of the period of no inflationary increases in the pension lifetime allowance means that more and more savers face paying a 55 percent tax charge on amounts above the LTA ceiling. It is another example of fiscal drag – which is the ultimate stealth tax.

“The worry is pension savers who have been kicked around like political football, will miss out on valuable tax relief by deciding not to save more into their pensions in fear that they might exceed the LTA limit.”

The lifetime allowance rules place a cap on the amount a person can save into their pension, which is currently £1,073,100.

Alice Guy, personal finance editor at interactive investor, said: “Anything saved into your pension over this amount is taxed at a much higher rate, currently 55 percent for lump sum withdrawals.

“Having a pension pot worth more than £1million may seem enormous but it translates to an annual defined benefit pension of £53,655, which is achievable for higher earning doctors and many others.”

However, Ms Guy continued: “The rules are encouraging many doctors to retire early as they are worried about high tax charges.

“The lifetime allowance was £1,500,000 when it was introduced in 2006, but it has been reduced over the years and then frozen, rather than increased.

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“Further reducing the lifetime allowance will discourage people from saving into their pensions and could leave the next generation struggling to achieve a comfortable retirement.

“A private pension pot of £1,073,100 would give someone a pension income of around £32,193 per year if they withdraw three percent per year from their pension. It’s a modest amount and is only around the current average salary in the UK.”

However, freezing the LTA isn’t the only headache for those approaching retirement. While inheritance tax bands have also failed to increase with inflation, this is another source of pressure that’s squeezing wallets.

Mr Jobson said: “The freezing of the LTA is compounded by fears of an inheritance tax squeeze. Passing on wealth to younger generations is hardwired into many people’s DNA.”

However, in interactive investors’ 2022 Great British Retirement Survey, respondents admitted that not being able to pass on wealth to loved ones through inheritance was considered the largest financial concern by over a quarter (28 percent) of respondents from the nationally representative survey.

Inheritance tax thresholds have remained the same for over a decade, which many argue is eroding estates.

Currently, the nil-rate band, which is the maximum threshold a person can inherit before having to pay IHT, has been frozen at £325,000 since 2009.

However, while UK inflation rates rocket and house prices surge, it’s argued this threshold is now far too low and it’s hitting many households much harder.

And, there is still a great degree of uncertainty around the pensions triple lock.

Mr Jobson said: “The link between protecting retired incomes and overall health is clear from Interactive Investor research findings. Preserving the triple lock could therefore have knock-on benefits to health policy.

“While market volatility this year has shown that a guarantee that is linked to ‘the highest of’ inflation, wages or 2.5 percent can be problematic, reforming the way the triple lock is applied, to a smoothed measure, rather than focusing discussions on its removal, could have knock-on benefits to NHS spending.”

Mr Jobson continued: “Insufficient retirement income is a health risk and should be treated as such in policy discussions. The advantages of the state pension triple lock are numerous, and it should be preserved.

“The policy has become a symbol for doing right by older people, but with public finances at its most stretched since the post-World War Two era, these are worrying times for current and future generations.

“We need a public confidence boost in state and private pensions, rather than erosion.”

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