The proportion of people in the UK aged 65 or over is projected to reach almost a quarter by 2037, and engagement with workplace pensions schemes increased by around a third following the introduction of automatic enrollment in 2012. It may then come as a surprise that the existing framework essentially boils down to two options - defined benefit ("DB") or defined contribution ("DC") pension schemes.
Notwithstanding this binary choice, the legislative regime is markedly complex - especially once you factor in those older pensions schemes happily "grandfathered-in" to provisions which have since been repealed. However, the clear message from recently published materials is that, whilst the Government is aware of this complexity - and the resulting inconsistencies in some cases - improvisation and not wholesale reform is all that we can expect for now.
New product - same tax regime
The Pension Schemes Bill 2019 -21 includes legislation to allow collective money purchase (or "CMP") schemes to operate in the UK (these schemes are already used in other countries such as the Netherlands, Denmark and Canada). Under a CMP scheme, like under a DC scheme, both employer and employees contribute to a fund from which retirement incomes are drawn. The fund is a "shared pot", with funding risk being borne collectively by the individuals whose investments make up the fund. Unlike a DB scheme, a CMP scheme only offers a target income at retirement: if the scheme is under-funded at any time, the level of member benefits is adjusted to ensure that the assets of the collective fund are equal to the liabilities relating to the target income.
Proposed amendments to the Finance Act 2004 (the "Act") will enable CMP schemes to operate as registered pension schemes by slotting them in as a subset of money purchase schemes in Part 4 of the Act. This will enable CMP schemes to benefit from available tax reliefs and exemptions in the Act. They will further ensure that CMP schemes can operate within Part 4 of the Act without creating unintended consequences, such as unauthorised payment charges for the scheme and the member. Also, specific provision has been made in relation to a pension scheme with CMP arrangements and/or benefits being wound up to enable transfer to other registered pension schemes.
The draft legislation is open for technical consultation until 15 September 2020, and the CMP amendments are intended to come into effect on 6 April 2021 at the same time as the enactment of corresponding provisions in the Pension Schemes Bill 2019-21.
Change without reform
The Government has also (following some pressure from the Low Incomes Tax Reform Group and recommendations from the Public Accounts Committee earlier this month) published a consultation (responses invited by 13 October 2020) into inconsistencies in the amount of relief available to low-income individuals, depending on which payment method their pension provider chooses to use.
This inconsistency is a quirk of the way the reliefs regime has evolved. Historically, the employment relationship meant workplace pensions could use the "net pay" method, deducting contributions and granting relief via payroll adjustments. However, payments into personal pensions, which became available in 1988, are not made through the payroll. Instead, the individual makes contributions after their salary is taxed, and their pensions provider then submits a relief claim to HMRC ("relief at source" or "RAS"). To this day, this claim needs to be made on paper.
Relief at source is now the default option, though schemes are free to elect to use net pay instead. Broadly, for individuals in the basic rate band or above for income tax, this only affects the paperwork. However, for those who earn less than the personal allowance, there is a real impact on take-home pay. To take HMRC's "Alex and Sam" example, each of Alex and Sam want to end up with £100 in their pension pot. We'll also assume that each of them earns £10,000.
- Alex contributes through net pay. To put £100 into her pension pot, £100 is deducted from her pre-tax salary of £10,000. This leaves Alex with take-home pay of £9,900 (after income tax of nil).
- Sam is a member of a RAS scheme. For RAS purposes it is assumed that she is at least a basic rate taxpayer. So, Sam only needs to contribute £80 to put £100 into her pension pot as Sam's pensions provider can claim £20 in tax relief from HMRC to make up the full £100. So, Sam will be able to take home £9,920 (£10,000 salary (after income tax of nil) less £80 of pension contribution).
In the consultation, the government puts forward different options to remedy this issue. The government also invites views on whether the current administrative processes are unnecessarily complex, particularly for those unlikely to have access to specialist advice or assistance.
While it acknowledges that any changes are likely to have broader implications for low-income individuals (such as their entitlement to benefits), the consultation document makes clear that the government is neither "proposing to implement an entirely novel method of administering pensions tax relief", nor considering broader changes to the pensions tax system. Instead, any changes need not only to be "straightforward and proportionate" but also compatible with an existing framework which is anything but straightforward. Answers on the back of a postcard, please.