We are weeks away from what could be one of the most momentous Budget statements for years.
George Osborne’s bombshell 2014 Budget unleashed the pension freedom reforms – and transformed Britain’s personal finance landscape.
Could Rachel Reeves seize the opportunity of a stonking parliamentary majority of 174 and five long years to unveil a “maxi” Budget with radical implications for our money?
The Government has certainly laid the groundwork for a Budget of pain where those “with the broadest shoulders” (whoever they are) should prepare to be milked to fill the £22bn “black hole” Labour claims to have found in Downing Street.
But Reeves and Sir Keir Starmer have a problem. They have given unexpectedly generous pay rises to the public sector, promised to keep the pensions triple lock for the duration of this parliament – and guaranteed not to raise income tax, National Insurance or VAT.
So where is the money going to come from? Ideally the economy would grow big enough, and quickly enough, to make tax rises unnecessary. But you can’t just will a booming economy into existence, which makes some form of tax rise inevitable.
Once you remove the three big levers, it is very difficult to raise substantial amounts of cash without doing something fairly radical. Fiddling with inheritance or capital gains tax rates can raise billions of pounds but that is unlikely to be enough to plug the government’s gaps (real or imaginary).
Here’s three possible reforms, often discussed, that Labour hasn’t ruled out, and the chances of them happening.
Tax relief on pension contributions. Chances of happening: 4/10. The oldest of old chestnuts. There are many advocates of pension tax relief reform. The current model of relief based on marginal rates means higher earners collect the lion’s share of tax breaks, it only costs a top-rate taxpayer 55p to generate £1 in a pension, whereas a basic-rate payer would have to contribute 80p to get the same sum.
Introducing a flat rate of, say, 30pc relief could be politically sold as a big boost for the lowest earners, who are most in need of retirement savings.
If it is set at the right level, the Treasury could also save many billions of pounds a year. The Chancellor has previously backed reform along these lines but, like George Osborne before her, may have realised just how difficult this would be in reality. Labour has already u-turned on its plan to reimpose the lifetime allowance on pension savings because to do so would have encourage senior NHS to retire early or turn down extra shifts. Applying tax relief reform to the defined benefit schemes used in the public sector would provoke outrage among the unions the new government must keep on side.
There are other options, which involve higher costs for employers.. Two major think-tanks, the Resolution Foundation and Institute for Fiscal Studies, are calling for companies to pay employer National Insurance on pension contributions for their staff. The IFS estimates this could raise £17bn a year, though conceded a “big bang” change of this kind would risk pension contributions falling off a cliff.
Given the Chancellor’s reliance on economic growth, it would seem an odd time to add to companies’ costs and it would be politically difficult, given the pre-election pledge not to raise National Insurance.
Tax free lump sum. Chances of happening: 5/10. Jeremy Hunt froze the tax-free lump sum at £268,275 when he abolished the lifetime allowance. With fiscal drag, over time more people will find they are restricted to taking less than the usual 25 per cent tax-free but Labour could raise some revenue by deciding to lower the figure further.
Return of the pensions “death tax”. Chances of happening: 6/10. Since Mr Osborne’s radical reforms, pensions have become the ultimate wealth planning vehicle. With a little planning you can now pass huge sums down the generations without paying inheritance tax and, if you’re savvy, without income tax either. It’s too good to last: at some point a Chancellor is going to tighten the rules.
The IFS says pensions should be subject to inheritance tax to bring them into line with housing, Isas and other assets. Doing so would eventually raise an extra £2bn a year, it estimates. Labour could adopt that recommendation and also remove the many reliefs that allow the wealthy to dodge death duties, without actually raising the IHT rate.
The arbitrary “age 75 rule” whereby pensions are also handed down free of income tax
if the pension holder dies early could also be quietly removed. The preferential tax treatment of pensions seems destined to be cut back, if not this October then at some time over the next five years.
Brace yourselves, 30 October could go down in history – or… it’ll be a damp squib and we’ll forget I ever wrote this piece.