News analysis: Osborne’s tax conundrum

A proposal to integrate tax and national insurance was the most significant measure affecting reward in the Chancellor’s Budget, says Nicola Sullivan

Chancellor George Osborne’s Budget report last month contained a number of measures affecting pensions, pay and other benefits.

One of the most significant announcements was a consultation over the government’s proposal to integrate tax and national insurance (NI). But the idea of creating one overall tax, designed to remove distortions and reduce administrative burdens on employers, has raised concerns about the future of salary sacrifice arrangements. Fraser Smart, managing director of Buck Consultants, said: “This legislation would be a minefield for taxation and structure of company pension schemes, and employers will be particularly fearful for the future of salary sacrifice.”

Although merging taxes would make the system more understandable for employees, complications might arise because of the different ways that tax and NI are treated by HM Revenue and Customs (HMRC). Graham Farquhar, partner at Ernst and Young, said: “A lot of people do not really understand what happens with NI contributions and how that affects benefits. Also, despite HMRC’s efforts, there are still parts of compensation that have different treatments for tax than for NI.

“If an employer is going to make a payment, such as a termination payment, there are two different rules. There is a £30,000 exemption for tax purposes and then there is an all-or-nothing exemption for national insurance.”

Osborne also announced that the discount rate for calculating public sector pension contributions would be set at 3% above the consumer price index (CPI) to ensure the costs passed to future taxpayers are “fair and sustainable”. The previous discount rate was based on the retail price index (RPI) plus 3.5%. Chris Hull, partner and consultant at Mercer, said the change would increase the assessed cost of public sector pensions, and add £200 billion to the current accrued pension liabilities in the UK.

Legislation will also be introduced to prevent disguised remuneration or avoidance restrictions on pensions tax relief for high earners. But these kinds of structure could be of more interest to employers in view of the fact that the Budget also said the 50% tax rate would be a temporary measure. Mark Groom, a partner at Deloitte, said: “Many employers will want structures so they can defer remuneration without falling under the disguised remuneration rules until they can benefit from a 40% rate later on.”

It has not yet been clarified whether the government’s tax avoidance rules will include salary sacrifice car schemes.

The government also plans to abolish 43 tax reliefs, including relief on taxi fares if staff work late, an allowance for breakfast if they cycle to work, and luncheon vouchers. Farquhar said: “Under the exemption, you could have up to 40 unexpected journeys a year and the taxi would be tax-free. A lot of people made the most of that. It will be difficult for employers to take that benefit away.”

Lesley Fidler, associate director at Baker Tilly, added: “I am not sure how many employers ever provided breakfasts on cycle-to-work days anyway. With late-night taxis, HMRC’s view was it had been exploited.”

Other measures affecting benefits include:

  • The personal tax allowance for under-65s will be increased by a further £630 in April 2012.
  • The government plans to introduce a single-tier state pension, which will bring an end to contracting out of defined benefit schemes.
  • The government accepted Hutton’s review on public sector pensions and the Hutton report on public sector pay.
  • Company car tax was frozen for low-CO2 cars and approved mileage payments will rise to 45p.

Read more articles on the Budget’s impact on benefits