Adrian Boulding, Director of Policy, NOW: Pensions
One of the perks of saving into a pension is tax relief – extra money that Government pay into your pension. But, as a result of a wrinkle in the way tax relief is collected, some lower earners are missing out through no fault of their own.
This is due to the fact that there are two ways pension providers can collect tax relief – net pay and relief at source. For more information on the difference see here.
Members of pension schemes who don’t pay income tax, typically those earning less than £11,850 each year, are permitted to basic rate tax relief (20%) on pension contributions up to £2,880 a year. In practice this means that HMRC will top up a net contribution of £2,880 to a gross £3,600.
However, this tax relief is only available where the pension scheme operates on a relief at source basis or RAS for short. It is not available for schemes that operate a net pay arrangement.
Until April 2015, both the nil rate tax band and the auto enrolment earnings threshold were £10,000 pa. That meant that employees eligible for auto enrolment were also income tax payers, and therefore received tax relief regardless of which method of contribution their pension administrator adopted.
From April 2015, the auto enrolment earnings threshold remained at £10,000, but the nil rate tax band was increased to £10,600. It rose to £11,000 for the 2016/2017 tax year, £11,500 for the 2017/18 tax year and £11,850 for the 2018/19 tax year. This separation created a tax anomaly in that members with salaries between the two figures, who are more likely to be women, are disadvantaged under net pay arrangements.
For somebody earning £11,850, paying auto enrolment minimum contributions, the maximum they are missing out on in the current tax year is £38.91. But, as the nil rate tax band increases this will grow so that by 2020/21 when the nil rate tax band is expected to have risen to £12,500 savers could be missing out up to £5.00 every month.
While this is an issue only government can resolve, we don’t think it’s fair that our members should miss out. So, to make up this shortfall, we offer our members a ‘top up’ out of our own pocket.
We promote this top up via employers and advisers and there’s lots of information on our website including the simple online claim form. We also talk extensively about the top up in the annual benefit statements all members receive.
But, topping up members in this way isn’t a long term answer which is why a government solution is essential to ensure nobody misses out.
One solution could be for all net pay schemes to move to relief at source but, the introduction of the Scottish Rate of Income Tax in April has introduced a completely new level of complexity to the standard relief at source approach, and to the tax relief environment of auto enrolment in particular.
With Scottish income tax rates at 19%, 20%, 21%, 41% and 46% there are a significant number of income tax paying pension scheme members who aren’t receiving their full tax relief entitlement under a RAS arrangement. That’s because anyone in a RAS scheme who pays tax at rates higher than 20% has to make a separate individual claim to get their full tax relief. To add fuel to the flames, in April 2019 the Welsh Assembly will have the power to introduce their own income tax rates which could be different to both Scotland and England and Northern Ireland.
This is an issue only government can resolve and we continue to press for action as we believe it’s imperative that all savers are treated equally and receive the government benefits they are entitled to.