Salary sacrifice must surely be on the agenda every time the Treasury meets to discuss the momentous choice it has to make on pension tax relief. John Greenwood reports
While the postponement of auto-enrolment increases and the announcement of the level of the new state pension were generally considered the biggest items in this year’s Autumn Statement, a consultation into salary sacrifice has attracted far less attention.
Yet some argue stopping or restricting salary sacrifice on pensions could prove to be the rabbit in the hat that makes reforming the pensions system easy for the Chancellor.
The Government may have kept the thorny issue of National Insurance contributions completely out of the consultation on strengthening incentives to save in pensions. But its position will be made much clearer either before or at the time the Chancellor delivers his verdict on pensions tax relief next March.
The Office of Tax Simplification will file the findings of its study on the closer alignment of income tax and NI contributions ahead of Osborne’s 2016 Budget. It is charged with highlighting the distortions, burdens and costs associated with the current system, and the changes that could be introduced to bring the two systems closer together.
At the beginning of this month it started surveying employers, individuals and advisers on their perspectives on the difference between NI and income tax, in a move some fear could spell the end for the strategy. One question on that survey asks whether tax advisers have seen an increased interest in avoidance of NI.
Mercer principal Peter Boreham says: “The Chancellor has previously fired warning shots over salary sacrifice and disguised remuneration. The Autumn Statement shows that they continue to be in his sights.”
Broadstone technical director David Brooks agrees the issue is clearly on the agenda. He says: “The Government has reiterated its dislike for salary sacrifice and it is possible that steps will be taken to address this, either by attacking the ‘peripheral’ uses or with a wholesale change at its very core.
“The message is for employers and trustees in particular: this Autumn Statement was quiet for pensions but get ready for the Budget.”
Former pensions minister Steve Webb said six months ago that the Treasury could scrap salary sacrifice – citing a figure of £15bn that could be saved by doing so. That would put up the cost of pensions for many, but by no means all, employers.
Hargreaves Lansdown head of corporate pension research Nathan Long says: “Nobody would willingly choose the complexity that comes from a separate tax and NI system. However, with a multitude of tax rates for different benefits, and quirks within the system, it could get awfully complex, time-consuming and costly to make any meaningful changes.
“Tweaks to salary sacrifice in particular risk undermining employer support for auto-enrolment. As well as being more tax-efficient for employees, many businesses introduced salary sacrifice to offset their increased cost of workplace pension contributions.”
But would it be any less popular than swingeing changes to tax relief or a switch to a pension Isa model?
Barnett Waddingham partner Mark Futcher believes tweaking salary sacrifice could bring in enough money for the Chancellor not to have to consider taking such drastic steps. He says: “He could save himself a great amount of money by simply making pension contributions subject to National Insurance, or by only allowing contributions up to the auto-enrolment limit to be NI-free.
“Banning it for all contributions would be more straightforward, whereas banning it for those above the auto-enrolment level would shelter the AE policy from criticism.”
The fact that not all employers use salary sacrifice surely makes it more vulnerable than reliefs that are used by all. And with pension freedoms creating the potential for those over age 55 to avoid sums in the region of £20bn in tax by simply flushing as much remuneration as possible through pension instead of the NI-heavy salary channel, a key loophole would be closed.
Salary sacrifice and pension tax relief look set to be some of the most hotly debated topics for the next four months, with experts scouring the regulations for signs of which way the wind is blowing.
Brooks says: “The absence of any anti-forestalling measures gives a chink of hope that the changes will not be too seismic. Also, the Government estimates presume the continuation of the existing tax relief method.”
Others think the alignment of the AE contribution increases with the tax year signals a fundamental change in the offing.
None of the solutions look straightforward, although charging NI on pension contributions – a system that many employers already operate – feels like one of the easier options.
This debate is set to run and run.