The Chancellor announced yet another round of changes to pensions tax relief in the Summer Budget. While billed as a ‘high earners’ issue, these have implications for a much broader audience than we’d typically regard as ‘high earners’. So what are these changes and how will they impact your staff?
The Annual Allowance (AA) is the maximum tax efficient pension saving available in a tax year. In 2014/15 it stood at £40,000. Saving above the AA is taxed at the employee’s marginal rate of income tax. This is penal as benefits will be taxed again when they are eventually taken.
In July Osborne announced that AA will be restricted for those with income over £150,000 from April 2016. The new rules are complicated but essentially can impact anyone with total earnings of over £110,000 a year. Given typical pay and bonus structures, staff with a basic income well below £100,000 are in danger of being caught.
At its most extreme the AA will be reduced to just £10,000 for your highest earners. With most pension scheme designs providing benefits in excess of this for higher earners, your members will be subject to significant tax bills unless action is taken.
So what can you do?
Many companies begin by assessing who’s likely to be impacted. Putting affected members into tranches makes it easier to prioritise the actions that need to be taken. Essentially there are three main groups: those below the “threshold income” (£110,000), the “adjusted income” tranche (£150,000 to £210,000) and those above adjusted income (£210,000).
Once you know who is affected and to what degree there should be two key priorities. First, managing the expectations of senior personnel and second, ensuring tax efficiency is optimised within the current regime.
Fortunately there are ways to help many avoid a tax charge this year. For example, exploring options such as carry forward of unused AA allowance or allowing members to adjust their pension saving to fit the limits. This can help some scheme members make contributions or secure a DB benefit over the normal £40,000 this year.
Effective communication is absolutely essential and employers must help answer the two most important questions members will have: am I affected and if so, what should I do? Holding sessions with staff, providing personal member statements and using on-line modellers can all form part of the solution for employers who have significant numbers of affected employees.
In terms of scheme design, some companies are looking at modest tactical changes such as a cash alternative for those caught by AA limits this year, while others are taking a ‘wait and see’ approach. There is a much broader consultation on the future of pensions tax underway at the moment. Until we know the outcome of that it doesn’t make sense to make sweeping changes to schemes.
What does the future hold?
Until we know what the Government decides on the future pension tax regime this is largely speculation. Even if there are no further changes, the measures that come into effect in April 2016 catch a much greater number of scheme members that we expect companies to fine tune their pensions promise.
Ways to do this include examining bonus timing and how it falls across the tax year as well as looking to alternative saving products. Corporate ISAs are frequently mentioned, as are Save As
You Earn (SAYE) and share incentive schemes. Each has attractions and limitations.
ISA take up has been relatively low as a workplace benefit. Its suitability as the default replacement for those caught by the AA tax charge is debatable due to low limits, although these have improved in recent years. Share scheme limits are relatively low albeit highly tax effective, but largely unattainable for unlisted companies.
The challenge going forward will be how to provide remuneration packages that are broadly suitable across the workforce? Chances are, that despite the latest erosion, pensions will continue to play an important part in companies’ reward strategies for years to come. But the need to ensure they are effective for your most senior staff becomes more pressing with each new restriction on pension saving that the Government introduces.