The rise in personal income tax allowance could hit part-time workers’ pensions
“While the increase in income tax personal allowance is generally good news, it could affect tax relief given to low earners paying into an occupational pension scheme. Such employees get relief by having their contributions deducted before their income tax liability is calculated.
“With a higher personal allowance they may have no income tax liability and no relief under the net pay method operated by occupational schemes. Group personal pensions, in contrast, will always provide basic rate tax relief, even if the member’s earned income is less than the £10,600 personal allowance. Because this affects lower earners, it will have most impact on part-timers, the majority of whom are likely to be women.
A part-timer on £10,000 a year say, paying a 5% contribution to an occupational pension, would have £500 deducted from pay. An identical part-timer paying into a personal pension would only have £400 deducted from pay, and the insurer adds a further £100 which is then reclaimed from HMRC. In both cases £500 ends up in the pension scheme, but the part-timer in a personal pension pays £100 less for it.
Alternatively, if both part-timers make the same net contribution of £500, only £500 goes into the occupational scheme while £625 would go into the personal pension. With the income tax personal allowance set to rise faster than inflation next year, this problem will be compounded into the future meaning someone in an occupational scheme could be worse off to the tune of about £700 over the next five years, assuming an element of investment growth.
An important consideration for employers with a large number of part-time or lower paid workers will therefore be what type of pension scheme they should put in place under automatic enrolment. They should seriously be thinking about using a scheme that operates the “relief at source” method of delivering tax relief. “Relief at source” guarantees that any personal contribution will be grossed up by the basic rate of tax, even if someone is under the tax threshold. “Relief at source” is operated by group personal pension schemes and NEST.
The squeezed middle
“The “squeezed middle” has borne the brunt of the austerity measures and is finally getting some let-up. Higher rate taxpayers will be better off next year to the tune of £184 compared to £132 for basic rate taxpayers. However, over the period 2010/11 to 2017/18 someone on £25,000 median earnings would have seen their income tax bill fall by 24%, while someone on twice that salary would see a fall of only 8% over the same period. There is still some way to go before the squeezed middle can loosen its belt.”
Savings allowance trumps ISAs
Cash ISAs have come in for a lot of criticism for delivering poor returns. Certainly some ISA rates can be lower than ordinary high street savings accounts. The new £1,000 “personal savings allowance” skews things further in favour of the ordinary savings account. If you can get 2% interest and you’re a basic rate taxpayer, you can grow your savings up to £50,000 outside an ISA and still get the same tax-free net outcome.
“In addition, thousands of lower paid pensioners will no longer be taxed at source by banks and building societies on their savings interest. This automatically delivers tax relief for the thousands of pensioners who omit to claim it each year.”