Pension planning

Introduced in the 2009 Budget, the Government’s anti-forestalling rules dealt a blow to many high earners who were making large – the Treasury would say ‘excessive’ – pension contributions to take advantage of 40% tax relief. The original measures, as they came into force in April last year, met with a flurry of protests and have now been amended.

Under the 2009 rules, taxpayers earning more than £150,000 a year would be entitled to tax relief at the basic rate only on annual pension contributions above £20,000 (with certain exceptions for those already paying regularly at a higher rate). Armed with figures suggesting that 25% of tax savings from pension contributions were made by just 1% of its taxpayers, the Government’s aim was to limit the biggest tax breaks available to a small group of people who are already well provided for.

But the anti-forestalling legislation contained an anomaly: anyone earning £145,000 a year while also benefiting from a £15,000 employer-paid pension contribution that took the overall package to £160,000 could escape the tax relief cap. Meanwhile, someone earning £160,000 with no employer-financed scheme could be caught, despite earning the same overall.

As a result of protests, the Government has introduced a number of changes, including an assurance that anyone earning £130,000 or less need not be concerned by the tax relief cap.

For those just above this threshold, it’s possible to escape the cap by making a Gift Aid donation to bring the taxable income below the relevant trigger point – which may be £150,000 or £130,000, depending on the exact circumstances and timing of payments.

More generally, employers operating final salary schemes should be conducting valuations of the benefits offered by the schemes to assess the impact of the anti-forestalling rules on highly paid members.

Alternatives to pension schemes

The anti-forestalling rules have led to increased interest in alternative retirement investment vehicles.

Chief among these is the ISA. The advantage of the ISA is that it offers a relatively safe harbour for retirement cash. These accounts are heavily regulated and, crucially, the tax breaks they offer are not linked to any requirement to invest in high-risk assets. There is no tax relief on money invested in an ISA, but unlike pensions the returns are tax-free. Anyone over the age of 50 can already save up to £10,200 a year, and from 6 April 2010 this extends to all adults.

In one way, ISAs are more flexible than pension schemes in that they can be cashed in at any time – unlike pension funds where strict lock-in rules apply – although this also opens up the temptation to draw the ‘alternative pension fund’ early, leaving less income and capital in retirement.

Other alternatives include investments in Venture Capital Trusts and in qualifying companies through the Enterprise Investment Scheme. Both these options offer attractive tax breaks but the investments are high-risk and are unlikely to provide a secure destination for retirement savings.