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Pensions Green Paper

Overview of Tax Simplification proposals and the Pensions Green Paper

Previous Mistakes

Pensions mishandling goes back to 1948, when the Government of the day failed to fund the new State Pension scheme that it launched. The 1974 Labour Government failed to stop the merry-go-round when it cancelled the proposed “Joseph Scheme” – a properly funded, money purchase, second tier pension - and replaced it four years later with an unfunded, earnings related scheme (SERPS), in the knowledge that the country had an ageing population that was living longer. Nor are Conservative Governments blameless. In 1988 the Conservatives removed compulsory membership of occupational pension schemes, allowing a generation of employees either not to bother to save for retirement or to be mis-sold personal pensions.

The long awaited Green Papers have arrived accompanied by the same rallying cry that has accompanied each major change in pension legislation over the past thirty years – “Simplification and Radical Reform”. There is no reason to believe that this approach will be any more successful than those that have gone before, in persuading people to save properly for their retirement and to work longer.

Current Mistakes

The Green Papers set out a new tax regime for the future (from April 2004), which will replace everything that has gone before, and which, it is claimed, will be simple to understand and easy to administer, thus reducing costs. At least that’s what in excess of 275 pages of detail claim! There is major change proposed, as one would expect. However, there is little to suggest that it will be any simpler for the layman to understand pensions or, more importantly, that it will encourage people to stop spending today and instead put money away for the distant future.

The claim by this Government “ to be committed to tackling poverty among older people and to providing security, dignity and comfort for people in their old age by enabling people to plan effectively for their retirement” has a hollow ring in the light of Gordon Brown’s “stealth raid” on pension funds. In 1997 the Chancellor removed the facility whereby pension funds were able to claim back the 20% dividend credit – a piece of daylight robbery, which is estimated to have removed over £5 billion per year from retirement funds. Am I being too cynical to suggest that 5 years at £5 billion pounds per year plus an allowance for inflation almost exact equals the Government’s claimed £27 billion savings shortfall?

Mistaken Reasoning

This Government believes that the current system of tax relief is the major deterrent to people saving via pension schemes and that administration costs deter the low paid from similarly saving. It also believes that the new proposals to treat all pension schemes the same, abolishing all previous regimes, will remove both of these deterrents. These arguments are fundamentally flawed, for the following principal reasons.

• No matter how simple and cheap pension schemes become, the low paid do not have the money to save into those pension schemes. Stakeholder pensions are cheap and simple, but they have been a complete flop.
• The tax relief system is not the barrier to saving via a pension plan and it never has been. Indeed, the tax relief system has been an attraction for saving via a pension plan.
• A compulsory annuity purchase at age 75 has been (and will increasingly become) a deterrent, particularly at a time of unattractive annuity rates.
• The loss of control of the capital built up in an individual’s pension fund has always been a big issue – why should any remaining capital on death end up in the coffers of an insurance company? Here, the new proposals are very clever – the compulsory annuity purchase requirement has gone but there is no facility to pass any remaining capital to an individual’s estate on death after age 75 (even with a tax charge) so the position effectively remains as before! Mortality “drag” will make annuities attractive in these circumstances so the newly granted additional flexibility is pretty meaningless.
• Over-regulation in areas other than tax over the past thirty years, coupled with recent poor stockmarket investment performance and increasing longevity, have been the prime reasons for the closure of good quality defined benefit occupational pension schemes. The cost burden has simply become too great for most employers to bear. Over–regulation has had the effect that NW Brown Group predicted back in 1985 and “closing the stable door” now is not going to recapture “the horse” as the Government is suggesting.
• Increasing State benefits and Minimum Income Guarantees send an even more confusing message to the few low paid who can find money to save – will they simply be funding a benefit that the State would have provided if they had not bothered to save?
• The Government accepts that there will be transition costs but expects them to be low. Given the complete system overhaul that will be required from pension providers, this cost may have been underestimated and the 2004 implementation date for such an ambitious exercise may be very optimistic.
• Given the Government’s concern about the lack of pensions saving, it is ironic that these proposals have chosen to remove flexibility from Small Self-Administered Pension Schemes (SSAPS), which have proved to be an immensely popular pensions planning medium for directors of smaller, private companies.
• With the Equitable Life debacle going on (which is making the Maxwell pension scandal look like a bit of petty cash rifling), now is not the most tactful time to be encouraging people to save for a pension. What’s the point of saving all of your life, just to find out that you won’t get the pension you’re entitled to because someone else made a mistake and doesn’t have to compensate you. Nothing in the Green Paper will restore anyone’s faith in pension schemes.

New Mistakes

So while the new proposals are certainly radical and far-reaching, unfortunately they are fundamentally flawed in their reasoning. Nor does Government “spin” help. For example, in the Green Papers, the Government has gone to great lengths to stress the complexity of the existing system with its “eight tax regimes” and yet, in practice probably only two or three are currently active.

Most people have not had too much difficulty in grasping the concept that they can get tax relief on a certain percentage of their earnings each. Keeping tabs on how much of the new lifetime limit they have used up will not be as straightforward. Can you imagine keeping fifty or sixty years worth of Tax Returns and pensions statements?

How the State Schemes (especially the State Second Pension) and “contracting-out” fit into the proposed new equation has been filely ignored. Hardly anyone understands how the entitlement to the State Second Pension is actually calculated – an opportunity for simplification in this area has sadly been missed.

Death where is thy sting

The conclusion of the proposals is that we all must save more and retire later (work longer), a conclusion that is undeniable. Cynics might say that the new regime is designed to encourage people to work until they die, thus not putting a burden on the state schemes.

There seems little in this latest myriad of changes to suggest that this attempt is likely to succeed where previous efforts have failed. Anything that simplifies is obviously welcome but as past experience tells us – simplification does not necessarily mean improvement. Furthermore, each previous Government initiative has been heralded as giving confidence and security in retirement planning ………. until a change of Government!