In the world of finance, there are repeat events that financial planners predict will happen. For example, towards the end of the tax year demand for Stocks and Shares ISAs will shoot up, even though the best time to invest in them is often the beginning of the tax year.
Follow the link if you would like to find out more about why investing in your ISA early could boost your wealth.
Another annual event financial planners know will happen are the pre-budget rumours, which trigger media articles about increased taxation and reduced allowances. In recent years, these have often centred around the tax relief you receive on pension contributions, and fears it may be reduced.
While these rumours have so far not borne out, that could change in the wake of Covid.
This is because the coronavirus lockdown resulted in the UK government borrowing £303 billion to shore up Britain’s economy in the year up to March 2021. As official data shows, it’s the highest amount borrowed by a UK government in peacetime, and is the equivalent of everyone in the UK borrowing £4,500.
No wonder it’s prompted the question: how will it be paid for? According to a report in the Telegraph, one way could be to lower the tax reliefs that higher-rate and additional-rate taxpayers receive on pension contributions.
Given the economic backdrop, it might be prudent to take them seriously, especially as the changes may be announced as soon as the chancellor’s 2021 Autumn Statement.
Read on to discover why pension tax relief may be targeted, what the changes could mean for you, and how your financial planner could maximise your tax relief before it’s potentially too late.
The 2019 Conservative manifesto could be why pensions are being targeted
One reason the government may eye up pension tax relief is its 2019 manifesto. In it, the Conservatives pledged not to increase Income Tax, National Insurance contributions (NICs) and VAT, something that now makes it difficult to use these to boost the nation’s coffers as it could be seen as a U-turn.
As this means pension relief may now be the obvious choice, read the three tax changes the chancellor could be considering.
When you contribute to your pension, your savings are boosted by tax relief. For example,a higher-rate taxpayer will typically receive a 40% boost to their pension contributions.
As a result, every £100 pension contribution you make as a higher-rate taxpayer effectively costs you £60. If you’re an additional-rate taxpayer, your £100 contribution costs just £55.
This may be reduced if the chancellor decides to limit the amount of tax relief higher- and additional-rate taxpayers receive.
If it’s capped at the basic-tax rate of 20%, it would mean a 20% or 25% reduction in the amount the government contributes towards your pension if you’re a higher- or additional-rate taxpayer. As a result, you may need to increase your contributions to keep your retirement fund on track.
In the March 2021 Budget, the chancellor froze the LTA at £1,073,100 until 2026. This is the total amount of tax-efficient pension savings you can generate during your lifetime.
If you breach the limit and then draw on any of the amount above it, you could incur a 25% tax charge if you take the money as income, and a 55% charge if you take a lump sum.
According to the Telegraph, the chancellor could look to reduce the LTA to £800,000 or £900,000, meaning the charges will be triggered at a lower level.
If the limit is lowered, those with pension pots close to the reduced level may be allowed to apply for protection against the charges. If this happens, speak to your financial planner who will confirm whether it applies to you.
Another option the government could consider is to tax employers on the contributions they make to your workplace scheme.
While employers must contribute a minimum 3% to workplace pensions in 2021/22, many contribute more as the contributions are free of tax. This makes it more cost effective for your employer to provide a perk that is valued by employees.
If changes to regulations means employer contributions are taxed, it will increase the cost and could result in companies reducing the contributions they make to your pension.
Should this happen, you may need to increase your contributions to keep your pension on track.
Use your tax reliefs before you potentially lose them
If you’re a higher- or additional-rate taxpayer, speak with your financial planner to ensure you maximise existing pension tax relief before it’s potentially lost.
For example, you may boost your contributions or use carry forward, the latter allowing you to use unspent allowance from the previous three years.
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This article is for information only. Please do not act solely based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.
The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. Your pension income could also be affected the interest rates at the time you take your benefits. Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor.