The Chancellor seems to be singing a different song on pensions freedom from his predecessor, with the proposed reduction in the MPAA, suggests Simon Cormack, Aon Hewitt

In a nutshell: 
  • the main pension item in the Autumn Statement was the announcement of a consultation on reducing the MPAA from £10,000 to £4,000 from April 2017
  • once an individual flexibly accesses pension rights, they become subject to an MPAA from that point onwards, which does not seem very fair to those who have already taken advantage of such access
  • this is a far cry from George Osborne’s promise in April 2015 of pensions freedom and how people would be able to take control of their savings.

In November 2016, Chancellor Philip Hammond delivered his first – and last – Autumn Statement. For those working in the pensions industry, most seemed grateful that it was not too exciting. Not altogether bereft of pensions interest, but no rabbits out of hats from this Chancellor.

The Chancellor confirmed that the government was acting on the proposals contained in the earlier consultation by HM Revenue & Customs (HMRC) on salary sacrifice. Thankfully, this included confirmation that pensions will be exempt from the clampdown on benefits attracting relatively beneficial tax and national insurance (NI) treatment, which will apply when they are provided via salary sacrifice.

The Chancellor announced a consultation on options to tackle pension scams, including banning cold calling. He also announced that the tax treatment of foreign pensions will be more closely aligned with that of UK pension schemes (foreign pensions and lump sums will be brought fully into tax for UK residents and s615 schemes will be closed to new saving). The eligibility criteria for foreign schemes to qualify as overseas pension schemes for tax purposes will be updated.

It was also stated that the government would meet its pledge on the “triple lock” for the duration of this Parliament – but thereafter it will need to tackle the challenges of rising longevity and fiscal sustainability.

MPAA consultation

However, as far as pensions goes, the main item was the announcement of a consultation on reducing the money purchase annual allowance (MPAA) from £10,000 to £4,000 from April 2017.

To recap: an MPAA applies to all money purchase input made in the tax year in which the individual “first flexibly accesses pension rights”; the individual will then be subject to an MPAA on any money purchase contributions made in future tax years. Most commonly, it will be triggered by taking an uncrystallised funds pensions lump sum or by taking benefits under a flexi-access drawdown arrangement. But it will not normally be triggered by continuing to take payments under the terms of a pre-2015 capped drawdown arrangement.

The need for balance

As the consultation explains, the government feels that there is a need to strike a balance.

On the one hand, the government feels that it is acting against the spirit of the pensions tax system to allow people to gain a second round of tax relief by “recycling” their pension contributions – using the pension flexibilities to withdraw savings, benefiting from a tax-free element and reinvesting them in a pension scheme in order to take a second bite of the cherry later on.

Similarly, an employee reducing their tax and NI bill by diverting their salary into a pension scheme and immediately taking it (with a tax free element) is understandably not something that the government looks upon favourably.

On the other hand, the government acknowledges that where individuals need to draw on their pension but then find that their circumstances change, they should be allowed to rebuild their pension savings.

A far cry

The government’s line now is that the target for support through the pensions tax system should be those who “genuinely need, rather than simply choose, to draw on their pension savings and who subsequently find themselves able to rebuild their pension”. Perhaps illustrating how narrowly the government regards the deserving target group, the consultation gives as examples: those who have divorced or separated; those who have been made redundant; and those who have been declared bankrupt.

This seems a far cry from previous announcements, such as the press statement issued in the run up to April 2015 and the impending pension freedoms, in which the government trumpeted how 540,000 people were about to “be able to take control of their savings for the first time and plan for the future in a way that suits them best”.

The right balance

When flexible drawdown was introduced in April 2011 for those who could satisfy the £20,000 “minimum income requirement”, there was no annual allowance after taking drawdown. But when the draft legislation implementing the money purchase flexibilities was published in August 2014, it included an MPAA set at the level of £10,000 for those who made flexible withdrawals.

The position of the government now, however, seems to have changed. It does not believe that £10,000 is “needed or appropriate on an ongoing basis”.

Upper limit

In the 55+ age group, the government points out that the current MPAA of £10,000 is more than three times median defined contribution (DC) contributions made by males, and five times that made by females. It also says that only 3% of individuals aged 55+ make DC contributions of more than the proposed £4,000 a year.

The government goes on to suggest that setting the MPAA at £4,000 would ensure that where a person remained in, or returned to, employment having drawn benefits flexibly, pension savings could be made at a level that is above those that are expected to be required under auto-enrolment.

In April 2019, the minimum total contribution rises to 8% of qualifying earnings; and the upper limit of qualifying earnings is currently aligned to the higher rate tax threshold, which the government has committed to raising to £50,000. So on the face of it 8% of £50,000 = £4,000 would seem to exceed the expected auto-enrolment requirements, with a margin when the lower limit to qualifying earnings is factored in.

The government says that only 3% of individuals aged 55+ make DC contributions of more than the proposed £4,000 a year.
​Simon Cormack

Far too low?

Some have queried the statistics given in the consultation on the basis that they seem to be far too low. The explanation might be found in a recent article (Corporate Adviser, 20 December 2016), quoting a Treasury official as saying that the universe on which the figures have been based included all individuals between age 55 and 75, irrespective of whether they are in a DC pension scheme (or in any pension scheme at all) and irrespective of whether or not they are still actively contributing or have retired. If correct, this would seem to explain the low numbers, although it is perhaps puzzling why the government should have chosen such an approach.

When considering auto-enrolment, it is important to take into account that not all employers have dived to the bottom and are automatically enrolling their employees at the minimum possible rates.

And nor should they be encouraged to do so. It is debatable what a desirable contribution rate should be; but in some quarters a figure of 12% of earnings has gained traction, which certainly does not seem excessive (particularly for those in the age range referred to in the consultation). This suggests that any MPAA below around £6,000 may cause problems even to basic rate taxpayers.

Not easy to get right

Another difficult issue is to what degree a reduction in the MPAA should have a retrospective impact.

Once an individual flexibly accesses pension rights, they become subject to an MPAA from that point onwards. Consider this hypothetical example. In 2015, John, enthused by Mr Osborne’s promise of pensions freedom, designates his funds as available for drawdown. He takes out a pension commencement lump sum, which he gives to his children for a deposit on a house. Although this is going to take quite a chunk out of his retirement provisioning, he can always tighten his belt and pay additional voluntary contributionss to replenish his pension. Or can he?

If the MPAA reduces to £4,000 from April 2017, will this mean that John will be capped at this amount going forward? That would seem very unfair, since although there were never any explicit guarantees about the future level of the MPAA, surely he would have had a reasonable expectation that it would at least continue at the level of £10,000 – and he might be forgiven for hoping for some indexation.

The government suggests that those who wish to rebuild their savings beyond £4,000 could pay the excess into an ISA. But what if John had already factored in his ISA allowance to his original planning and has no additional headroom remaining?

The other approach would be to give a protected MPAA of £10,000 to John – and to anyone else who first flexibly accessed pension rights before 6 April 2017 (or more likely, before the date on which the government publishes its response to the consultation). Yet more complication, with yet more seemingly arbitrary cut off dates? So not an easy one to get right and keep everyone happy. We look forward to the government’s decision with interest.

And after the Chancellor’s final Autumn Statement, we also look forward to future Autumn Budgets (and Spring Statements). But no rabbits, Chancellor, please!

Simon Cormack is a research consultant at Aon Hewitt.