Shot with the stupid gun: was Darling just playing to the gallery when he taxed rich people's pensions?

When Alistair Darling announced in his 2009 Budget that he
would be depriving those earning £150,000 or more of certain tax advantages
associated with their pension contributions he said, by way of justification:
“It is only right that those who caused the downturn should bear more of the
costs.”

On one level, this was simply playing to the gallery, since even Darling has
to know that not every high earner in Britain is a banker. (In fact, the
headhunters we spoke to suggest that up to three-quarters of their £150k-plus
vacancies are outside of financial services.) On another level, it exposed the
fact that the move to hit the pensions of high earners was pure political
expediency and an attempt to milk the public furore over the outlandish £700,000
annual pension accorded to former Royal Bank of Scotland chief Sir Fred Goodwin.

What many missed is the fact that a pension on this scale requires a pension
pot far above the 2009-10 £1.75m lifetime limit and is, therefore, wildly tax
inefficient. As such, it would generate tremendous revenue for the Chancellor in
punitive taxes. In a rational world, the Chancellor would want every top
executive to seek such a pension, since the additional taxes raised would
greatly ease the national debt.

It is almost impossible to find any pensions expert who has anything positive
or kindly to say about Darling’s wheeze ­ other than the odd, honest admission
that it plays wonderfully for the advisory community.

Well advised
There is no doubt that it puts those who can most afford pensions advice deeply
in need of that advice. In a bleak economic downturn, Darling has tossed them a
particularly tasty bone and given them a wonderful reason to tighten their links
with the country’s richest people.

Gary Heynes, tax partner and head of private clients at Baker Tilly points
out that even higher earners need to be providing for their future and the
proposed changes are “a huge disincentive for anyone earning over £150,000 to
put their money into a pension.”

Instead, he suggests, vehicles such as the Enterprise Investment Scheme (EIS)
­ despite the high level of risk ­ will be seen as a more tax-efficient,
mid-term savings vehicle.

“EIS now has a threshold of £500,000 which attracts an immediate 20% tax
relief and you can defer Capital Gains Tax from other investments, which is
worth a further 18% on top of the 20%,” he says. The alternative is a venture
capital trust which attracts 30% tax relief.

Heynes says the legislation introduces “huge complexity” into the tax
legislation. “The forestalling rules (meant to prevent individuals from loading
their pension contributions before the new rules come into effect in 2011) are
very complex and quite draconian.

Moreover, this is on a self-assessment basis, so if you get it wrong, woe
betide you,” he warns.

Marc Hommel, pensions partner at PricewaterhouseCoopers, says many high
earners will find the value of remaining in a pension scheme has become
marginal. Others will find that it has actually become negative. “A major
unintended consequence of the change, from the government’s perspective, is that
as high earners stop going for pensions for themselves, they will lose the
motivation to support workplace pensions.”

This, in turn, would not just accelerate the closure of final salary schemes,
but would impact defined contribution schemes as well.

“A lot of organisations will be re-evaluating their overall strategy for
rewarding people.

The end result is that we will probably see personal accounts becoming an
outsourced way of meeting the government’s auto enrolment requirements. I expect
to see organisations becoming more creative in how they structure employee
reward schemes with pensions playing a much smaller role,” he says

KPMG pensions partner Lee Jagger also warns that the government could find
the law of unintended consequences coming into play as a result of the changes
it has introduced to high-earner pensions. At present, a range of normal
corporate activities, including promoting executives and allowing early
retirement, could trigger tax liabilities under the proposals.

“Employers will face a raft of questions from their high-earning employees
and they will need to get their heads around the new rules very quickly,” he
says.

One of the most critical points about the changes introduced by the Budget
was made by Stephen Haddrill, director general of the Association of British
Insurers, immediately after the Budget. Haddrill warned that the Chancellor “had
sent an alarming message that [the government’s] pension promises can be easily
broken.”

Proposed changes
• Restricted tax relief on pension contributions for those earning above
£150,000 a year
• No tax relief for those earning more than £180,000 a year
• New regime to be effective from 2011
• Anti-avoidance measures to prevent front-loading of pension contributions to
2011