Budget 2009 update: Impact on pensions

The government’s proposed changes to pension tax relief could result in a shake-up of high-level remuneration plans, according to experts.

In his Budget speech, Chancellor Alistair Darling revealed that pensions tax relief for those earning more than £150,000 will gradually be tapered from 40% until it is 20% for those who earn over £180,000 from April 2011.

Pensions less attractive

Sue Bartlett, partner at Watson Wyatt, said that the change may make pension benefits a less attractive form of remuneration for senior executives and may have a knock-on effect on their willingness to maintain good quality pension arrangements for their staff. “It may be that some high earners want to opt out of the pension scheme because it will no longer be tax-efficient and more people may move into cash allowances as an alternative.”

Chris Noon, partner at Hymans Robertson, added: “Under the current proposals, it appears that pension saving for higher earners could become an inefficient retirement savings vehicle as these employees are most likely to be higher rate tax payers in retirement. The real danger is that once pensions become less interesting for senior managers, they may show less interest in them as a savings vehicle for employees.

“The income tax changes for employees earning more than £100k potentially introduces an opportunity for tax arbitrage. It may be possible for individuals to defer additional pension contributions this year and pay more next year at a higher rate of relief.”

Restructuring reward

Raj Mody, pensions partner at PricewaterhouseCoopers, said that the changes will force employers to consider the way they remunerate their highest paid staff. “Understandably, the government’s focus is on low to middle-income earners, but companies will be concerned about the impact on all employees – whatever their earnings level. Such a change might prompt employers to review the way they reward higher earners, in terms of the balance between pensions and other forms of reward.”

Salary sacrifice

Salary sacrifice may become more popular for higher-rate tax payers and employers looking to make savings on the tax and national insurance contributions.

Pat Wynne, director at Xafinity Consulting, said: “Higher income earners will look for alternatives to by-pass today’s announcement to restrict tax relief by reshaping their overall remuneration package. I predict that the likely outcome of the Chancellor’s plans will be an increase in work-place pension provision by salary sacrifice. This may circumvent the tax relief change – depending on the legislative detail. Using salary sacrifice would also result in a reduction in the amount of national insurance contributions (a tax by any other name) paid by affected employers and employees.”

However, despite the suggestion that the restriction on tax relief could be mitigated by making schemes non-contributory or by introducing “salary sacrifice” arrangements, pensions advisor Hamish Wilson said such steps would not work given that high earners will now be taxed on their employer’s contributions.


High-level earners who may have intended to top-up their pension pots with lump-sum payments will no longer benefit from tax breaks. The changes effectively prevent anyone earning more than £150,000 from changing their normal pattern of contributions between now and April 2011, or from increasing their total annual payments beyond £20,000 a year.

Bartlett said: “Some organisations will have been thinking of doing a bonus salary sacrifice this tax year into an employee’s pension scheme as an employer contribution. I think that this is going to be treated as a special contribution. So if someone earns more than £150,000, and if the total amount they contribute a year is more than £20,000, then there is going to be no point doing that. They can do it but it won’t be tax-efficient.”

Added complexity

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Bartlett said the additional tax complexity may also make employers more likely to close their defined benefit schemes to future accrual if they have high earners in the scheme.

Wynne added: “Indeed, the announcement could be seen by the general public as a first step in abolishing pension tax relief entirely, or more simply as yet another anti-pensions message, at a time when government should be encouraging long-term saving. It is also the final nail in the coffin of the concept of pension tax simplification!”