Pension tax relief cap could be needed to pay for income tax cuts

The Momentum UK Team 31 January 2012

Pension tax relief for higher rate tax payers could be capped if proposals to raise the income tax allowance to the full £10,000 were to go ahead this April, as the Deputy Prime Minister Nick Clegg calls for the scrapping of a tax system that "entrenches" a divide between the asset rich and the poor.

In a speech given last week Clegg said that the government should bring forward proposals to raise the income tax threshold to help lower income families. The threshold is already set to rise from £7475 to £8015 in April 2012 and then to £10,000 by 2015.

In his speech Clegg called for the threshold to be raised to the full £10,000 as early as April this year, in a move that could cost the government £11billion.

It has been suggested that one way of funding the additional costs would be through a controversial cap on pension tax relief afforded to higher rate tax payers. The cap would mean that high and low rate tax payers would share the blanket rate of 20% tax relief on pension contributions.

Under current rules the government offers tax relief at your highest rate on pension contributions. If you are a basic rate tax payer this amounts to 20%, but the highest rate tax payer can enjoy tax relief of up to 50% on contributions.

PWC, an accounting firm said:

"A £100 increase in the personal allowance is estimated by HMRC to cost at least £0.5bn. To raise the tax threshold "further and faster" beyond existing plans would cost £11bn. If this is not paid for out of improved tax receipts from growth or from borrowing, there would need to be significant cuts in reliefs or tax rises else where. To illustrate the scale of the measure, a further increase in VAT to 22% would just about meet this gap."

In his speech Clegg did not directly call for a pension tax relief cap, but said that high earners should enjoy fewer tax benefits. Clegg said:

"Our tax system entrenches that divide and we need to be bold enough to shift the burden right up to the top.

"What I am signalling here, without in any way trying to write George Osborne's Budget for him, is to say the 10,000 [£10,000 income tax threshhold] target, which if we go on a genteel path we would achieve some time early in 2015, should, where possible funded through a fair way of raising revenues from the rich, be brought forward,"

Conservative MP David Ruffley told the BBC:

"There might be better candidates for boosting business confidence rather than just going for the 10,000 tax free slice straight away. Many of us think business confidence will be better stimulated in the short run by cutting payroll taxes and National Insurance contributions.

"If Nick Clegg thinks that he's going to get more money from loopholes by attacking the pensions industry and attacking the culture of saving by putting more tax on 40p tax payers with the pension proposals that we just heard about, or mansion tax, he's got another thing coming. We're not in the business of hitting the striving classes. People who are paying 40% tax are earning just forty-two and a half thousand pounds. That's not rich."