Proposals for a sweeping simplification of the tax treatment of pension contributions and benefits is expected to be the foundation of the long-awaited Green Paper to be published by the UK government today.
There are at present eight different tax regimes covering contribution and benefit levels in the UK. Given the Orwellian language habitually deployed by the government – the fire dispute offered the more recent example, where redundancies and productivity drives were described as “modernisation” – “simplification” is quite likely to turn out to be an increase in the already rising burden of taxation on pensions in the UK.
The New Labour government has already mooted restricting contribution relief to the basic rate, and at least some pension beneficiaries are certain to lose from any “simplification.” But the most widely touted reform is an alteration in the age of retirement from 63 or 65 to 70: people will have to work longer because they cannot afford to retire, in large part because the government has milked their pension funds already.
In this respect, the record of successive governments speaks for itself. The previously generous tax treatment of pensions in the UK has been systematically dismantled since the Conservatives began the assault on its privileges in the mid-1980s. They limited tax-free pension fund surpluses way back in 1986; introduced limits on tax-free lump sums in 1987; and capped tax relief for pensions in 1989. It was also a Conservative government which first restricted tax relief on dividend income back in 1993, and added special dividends in 1996.
However, the incoming Labour government has vastly increased the cost of corporate pensions by removing the income tax exemption of funds in 1997. Coupled with FRS 17, the proposed new accountancy rule obliging companies to put the value of pension liabilities on the corporate balance sheet, it is no exaggeration to say that the UK defined benefit pension system – once the envy of Europe – is now in crisis. Dozens of UK firms are restricting the scope, limiting the benefits and even winding up defined benefit pension schemes. Which is why other options canvassed by the government – such as obliging companies to maintain benefits, provided the plan sponsor remains profitable, and forcing companies to consult with trade unions before reducing benefits – are so misguided. At this point in the trade cycle, even threatening to increase the financial risk of defined benefit schemes is likely to turn a river into a flood.