The government held consultations with the pension industry between July and September last year on how to improve the system of tax relief to encourage more people to save for their retirement. It is expected to announce the outcome in the spring Budget in March.
The Financial Times reported on Monday that industry and Whitehall sources believe Osborne has decided to plump for a single rate of tax relief rather than the Isa-like pension idea, which would have replaced upfront tax relief on pension savings with relief at the time a pension is taken.
Steve Webb, director of policy at Royal London said, given that the government’s review had created an expectation that changes were coming, keeping the tax relief upfront was more preferable to a whole new structure of tax relief.
“If you think there is going to be change anyway, then a flat rate of relief is probably the best outcome,” Webb said.
“There have been very few supporters of the pensions Isa since it was floated in July… most commentators are saying that tax upfront and hoping you won’t get taxed in a generation is not very credible,” he said.
The existing UK system is based on a simple principle that the contributions made to a pension during a savers’ working life are tax free, and tax is only paid when the individual takes their money out.
The FT said the attraction of a single flat rate of pension tax relief on savings for Osborne is that it would satisfy both political and fiscal imperatives for the chancellor.
On the one hand it was unlikely to drive wealthier savers to support Opposition parties, while it would bring in much needed income to the government coffers more quickly than a radical overhaul would achieve.
A flat rate would cut the high rate of pensions tax relief that wealthier pension savers enjoy and would but be more neutral to lower rate tax payers and beneficial to some on low incomes.
The Pensions Policy Institute (PPI) has said that 29% of the current tax relief goes to basic rate taxpayers, 56 per cent to higher rate taxpayers and 15% to additional rate taxpayers. A single flat rate would be more “progressive”.
Pension tax relief currently costs the government around £21bn ($30bn, €27.5bn) a year, according to the Treasury. The PPI has calculated that a flat rate of 20% would bring in around £12.6bn to the exchequer. It has also estimated that a 25% rate would save £6.1bn, a 30% rate would save £1.2bn and a 33% rate would have a net cost of £2.1bn.
“Standard rate tax payers would get a bit more, depending on how the government introduced the new system, though that could be either as a bit more take home pay or a bit more going into their pensions,” said Royal London’s Webb, a former minister of state for pensions in the previous Coalition government and a former Liberal Democrat MP.