Speculation is growing the Chancellor will introduce a Pensions ISA on March 16 but could he decide to keep the old system as well? Jonathan Stapleton looks at the benefits of a dual-system approach.
There is increasing speculation the Chancellor is gravitating to a reform to pension taxation based on an ISA style system, where the tax relief is restricted to just basic rate, but withdrawals are tax free.
But what would happen should the government decide to continue with two tax regimes - allowing people to both make contributions to a modified EET system (with a reduced annual allowance of £10,000) as well as introducing a Pensions ISA with an annual contribution limit of £10,000 for additional retirement saving?
Such a dual-approach system could have significant advantages
First, and most importantly, such a move would avoid massive upheaval within occupational pension schemes - meaning employers would not have to make radical changes to their current scheme and that auto-enrolment could proceed as planned.
Such a dual-system approach could also allow the government to radically simplify the current system of pensions tax relief - scrapping the annual allowance taper for those with incomes of over £150,000 (as, with a new annual allowance of £10,000 it would no longer be needed) and removing the lifetime allowance altogether.
In addition, a reduced annual allowance of £10,000 would be reasonably simple to administer - with most workplace schemes already set up to administer changes in annual allowance and able to cope with such change.
Allowing people to contribute into both systems would also protect remaining defined benefit schemes.
While the reduced annual allowance would still allow high earners to get 40% tax relief, the amount they could receive would be significantly curtailed - resulting in significant savings for the government.
And the government would still be able to collect tax revenues from this system once people retired.
Such a change would also avoid the need for hugely complicated transitional arrangements - and could conceivably come into force from April 6 this year.
The introduction of new pensions ISA in addition to this system would go some way to compensating higher-rate taxpayers for the reduction in annual allowance within the current system and would also allow lower earners to top up their retirement savings.
A reasonably generous approach to a Pensions ISA could give savers basic 20% tax relief on contributions as well as tax-free investment returns and withdrawals in return for locking away your contributions until age 55.
Of course, there would always be the risk that people would simply not trust a government not to meddle with any Pensions ISA in the future and that any such product would not be taken up.
But such a dual-system approach would be more politically acceptable and would both achieve the government's aim of reducing the cost of tax relief and focussing relief on lower earners while keeping disruption to occupational pensions minimal.
Whether the Chancellor agrees with this approach or not is a different matter.
