Triple injustice puts Sir Fred in front

Place in order of loathing: dentists, lawyers, plumbers, well-paid staff, Sir Fred Goodwin. For most of us – depending on the condition of our teeth, marriages, hot water tanks, or employment – this is a relatively simple task. For those at the Treasury, however, it is seemingly impossible – because they see no distinction between these people whatsoever.

That’s the only conclusion that can be drawn from the small print of last week’s Budget. Closer inspection of the proposed – and already imposed – changes to pension taxation reveal three injustices. All of them visit the sins of the RBS banker upon the pension saver. But if two wrongs don’t make a right, it’s impossible to see how these three do (unless you’re a Treasury forecaster).

First, the limiting of 40 per cent tax relief to the first £20,000 of contributions for people who do not make “normal ongoing regular pension savings”. As I reported last week, “normal” pension savings are defined as those made in a monthly or quarterly pattern – and therefore exclude the annual contributions made from profits by the self-employed, those in partnerships, and directors. By contrast, employees already paying in monthly or quarterly are unaffected and can continue to contribute the full value of their salary up to £245,000, with 40 per cent relief. Not only is this disproportionate, giving one set of high earners 10 times the tax breaks afforded to others, it is also retro-
spective – being introduced for the tax year that started a month ago, without consultation. Mike Fosberry, of Smith & Williamson, said: “This means the majority of the self-employed – which is likely to encompass lawyers in partnership, dentists, surveyors, many entre-
preneurs and thousands of others – face significantly reduced pension saving opportunities compared with the employed.”

Second, the definition of a current “high earner” as anyone who had income of £150,000 in either of the past two tax years. As was widely reported last week, the tax relief restrictions are supposed to affect no more than 300,000 people – but this definition drags in anyone who earned £150,000 two years ago, but now earns far less, and may never again be a high-earner. Andrew Goldstone, at Mishcon de Reya, pointed out this week: “It will hit any small business owner, who, thanks to the strong economy at the time, had an exceptionally good year in 2007 or 2008 and earned £150,000. Never mind he may be struggling now.” And in going after the Goodwins, it ensures the less culpable lose badly. “It will affect thousands of bankers and other professionals who were well paid last year but were then made redundant and now work in a far less well-paid job. It’s the fiscal equivalent of kicking a man while he’s down.”

Third, the proposal to treat employers’ contributions to high earners’ pensions as a benefit-in-kind, taxable on the employee, like medical insurance. As reported in the FT last week, this was deemed necessary to prevent employees getting around the new tax rules by accepting larger pension contributions from their employers in lieu of salary – but it will more likely deter pension saving and, according to Price-
waterhouseCoopers, determine the closure of more defined-benefit (DB) schemes as companies lose interest – and patience. Tom McPhail, of Hargreaves Lansdown, argued this week: “This represents a catastrophic additional tax charge for high-earning individuals such as company directors. The average cost per individual is £10,650.” Martin Palmer, of provider Friends Provident, put it more bluntly: “Treating employer contributions as a benefit-in-kind is a hammer blow to DB schemes.”

Even more illogically, other Budget changes make alternatives to pensions more tax advantaged.

Individual savings accounts (Isas) are now more efficient for high earners. Under the old rules, Jerry McLoughlin of Punter Southall Financial Management calculates that a 35-year-old 40 per cent taxpayer putting a net £850 a month into a pension would have had a gross contribution worth £1,416, generating a fund of £788,933 at age 60 (assuming 5 per cent growth), which would have bought a single life, level annuity of £50,081, worth £30,049 a year after 40 per cent tax. Under the new rules, the gross contribution will be £1,063 per month, producing a fund of £591,978, which buys an annuity of £37,579, worth only £22,547 after 40 per cent tax. But using an Isa instead, a net £850 per month – the new maximum from April 2010 – produces £473,582 after 25 years, which provides an income of £23,679 completely tax free (assuming a 5 per cent yield)

Even buy-to-let property looks like a better option, with sale proceeds liable to 18 per cent capital gains tax, and monthly mortgage interest offsettable against rental income, for tax.

So tax incentives are still OK – just as long as they’re not given on the most popular and convenient way to save for retirement: a pension. Thanks, Sir Fred – you’re always top of my list.

matthew.vincent@ft.com