ISA compromise may spell end of pensions
Growth forecasts are down, debt is up and productivity continues to flat line. In other words, the Treasury needs a new cash cow. The proposed scrapping of pensions tax relief in favour of an Isa-style system, where the tax expenditure is at the withdrawal stage and not upfront, was too politically risky, however.
The lifetime Isa is a neat compromise and a step towards the eventual goal of scrapping tax relief on pension contributions. Aon Hewitt, the consultancy, has already suggested that the lifetime Isa could be “the Trojan Horse that kills off pensions at a later stage”.
But it’s clear that the government has learned a few lessons from the pensions industry. The 25% bonus is tax relief by another name, and in line with the flat rate of tax relief that many had been expecting. In fact, bonus is perhaps the word the pensions industry should’ve started using years ago to simplify pensions and explain the tax advantages more clearly.
There’s a spot of imitation too. The government has aimed a few broadsides at the pensions industry in recent times over “excessive exit fees” that make it difficult for some people to take advantage of the pension ‘freedoms’ launched almost a year ago.
The 5% penalty for withdrawals from the lifetime Isa is well above that paid by the majority of pension savers these days. It’ll be charged on anyone who withdraws their cash before the age of 60 (presumably a nod to a rise soon in the age at which pension ‘freedoms’ become available) and who doesn’t use it to buy a property. There will be exemptions, but that charge – and the accompanying loss of government bonus – will be controversial, not to mention painful.
There are other concerns too. Perhaps the most notable is that it threatens to undermine the single most effective pensions policy of recent times – automatic enrolment.
Opt out rates from automatic enrolment have been lower than anyone expected, and the lowest levels of opt out have been among younger savers. The lifetime Isa could change that and, with the option to use the proceeds for home purchase, reduce long-term savings provision.
As former pensions minister and now Royal London director of policy Steve Webb pointed out, “the Chancellor’s desire for a shiny new initiative could undermine the huge progress which has just been made in ensuring young workers have savings for retirement.”
It may also drive up house prices, as savers have the option of using the proceeds for a house deposit. The Office of Budget Responsibility has confirmed that the Lifetime Isa is “more likely than not to lead to higher demand for the relatively fixed supply of housing in the UK & so to higher prices”.
The lifetime Isa will encourage some under 40s to save more, and it should encourage a few to begin saving. But the true purpose of the lifetime Isa is as a staging post on the transition to the pension Isa, and the end of the pensions industry as we know it.
Jeff Salway is a freelance personal finance writer