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Reform the Pensions System

Comment 15th March 2013

To replace the existing State Pension with a single pension payable from age 70, of at least £10,000 a year payable tax-free.

To reform private pensions legislation to remove the Lifetime Allowance, decrease the Annual Allowance to £50,000, limit tax relief to 10% of all contributions, remove Pension Commencement Lump Sum restrictions, to make provision to make all withdrawals from pensions free of Income Tax and Capital Gains Tax, and to make provision to make all monies inside pensions free from Inheritance Tax.

Why does this matter?

The current pensions system is not fit for purpose, being overly complex, expensive to administer and in the case of private pension provision, often used as a tax avoidance tool by the super-rich instead of a savings vehicle for people who need it the most.

The State Pension system consists of 3 elements:

  1. A Basic State Pension (BSP) payable to everyone at a flat rate;
  2. A State Second Pension (S2P) payable to those with a sufficient National Insurance contribution history. The amount you eventually receive depends on how much National Insurance you have paid;
  3. The Pension Credit, which is a top-up to a minimum level of income, introduced because the previous two pay out a pittance.

These should all be abolished and replaced with a single State Pension payable to all British Citizens. It should be equal to the Pension Credit income guarantee, so no one will receive less than what is recognised as the poverty line. It should be payable tax-free.

Private pension provision is constrained in a number of ways:

  1. An Annual Allowance of £225,000 or 100% of gross remuneration, whichever is the lower, can be paid into pensions each year;
  2. A Lifetime Allowance (LTA) of £1.8million is the most you can accrue in pensions without being taxed on the fund;
  3. Only 25% of the fund value can be taken tax-free as a Pension Commencement Lump Sum (PCLS), and then only on the proviso that you have not exceeded the LTA;
  4. Any residue must be used to provide a taxable income, either in the form of an annuity or an Unsecured or Alternatively Secured Pension (USP or ASP);
  5. Any pension monies in USP or ASP are treated as being part of your Estate for Inheritance Tax purposes, but cannot actually be passed down to your children.

This massive complexity and the interactions between the different rules means that private pensions are often used for tax avoidance by wealthy individuals rather than savings for people on low incomes. I therefore propose the following:

  1. The Annual Allowance should be reduced to a flat rate of £50,000 per person, regardless of income. Contributions will be eligible for 10% tax relief, and you can't pay any more than that in.
  2. The Lifetime Allowance should be abolished.
  3. The Pension Commencement Lump Sum rules should be abolished. Allow people to access all of their money at retirement, and do whatever they want to with it.
  4. All withdrawals from pensions should be exempt from Income Tax and Capital Gains Tax. They are already exempt from National Insurance.
  5. ASP rules are far more restrictive than USP. ASPs should be abolished, and the age limit of 75 for USPs removed.
  6. USPs should not be exempt from Inheritance Tax, but provision made to allow monies still in USPs at the date of death to be passed down to children.
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