After the waves of changes in 2015 the New Year looks set to continue the trend of pensions reform with the end of contracting out, tax changes and the rolling out of auto-enrolment to small employers. Below we look at the headline changes and key predictions for pensions in 2016.
End to contracting-out
Currently, the state pension consists of two elements: the basic pension and state second pension. Occupational pension schemes have been allowed to contract-out of the second state pension on a salary-related basis by providing alternative benefits outside the state pension that meet specified requirements. This means that both scheme members and their employers pay a lower rate of National Insurance.
From 6 April 2016 the current basic state pension and state second pension will be replaced by a single-tier state pension meaning that the state second pension will no longer exist. As a result, the ability of schemes to contract-out will also disappear.
This will result in an increase in National Insurance Contributions for employers of 3.4% for each contracted-out employee and an increase in National Insurance Contributions equivalent to 1.4% of earnings for employees (for earnings between the lower earnings limit of £5,824 and upper accrual point of £40,040). Employers will need to consider how to best deal with this increase in National Insurance Contributions and communicate the changes to employees.
At the moment tax relief is given on pension savings to bump contributions back up to pre-income tax levels. The tax relief applies regardless of the individual’s income tax rate meaning that a large amount of pensions tax relief goes on higher rate taxpayers. This is expected to change in March 2016 when the Government will be announcing changes to pensions tax relief in its Budget. The Budget follows the consultation that was held on this topic in 2015.
It’s anticipated that a flat-rate of tax relief of 30% will be applied rather than the current marginal rate (the highest effective rate of tax that an individual pays normally 45%, 40% or 20%).
In addition, the Lifetime Allowance will be reduced from £1.25 million to £1 million in the 2016/17 tax year.
2016 will also see auto-enrolment rolled out to ever smaller employers. So far only 4% of employers have met their auto-enrolment duties. However, by the end of 2016, more than 500,000 employers will have passed their staging date meaning that many people will start to save towards a pension for the first time in their working lives.
Whilst nobody can be sure what the future holds it would appear that it will be a busy year of reform for both state and private pensions. Watch this space!