RSA calls for pensions tax reform to boost saving for self-employed

The policies aim to ensure that business owners and contractors are saving something, saving enough, can access savings before retirement, and have suitable protection during retirement.

While we accept that... the tax system is in that regard regressive, we’re a little bit concerned about throwing the baby out with the bathwater

John Wilson, JLT Employee Benefits

Less than a third of self-employed people pay into a pension, according to the Pensions Advisory Service. The government’s review of auto-enrolment recently sought to offer answers to the problem of undersaving, suggesting “targeted interventions” to encourage contributions.

However, the RSA, whose chief executive Matthew Taylor was commissioned by the government to lead a report into self-employment published last year, has called for stronger measures to be put in place.

“In partnership with the pensions industry, the government should... redouble its efforts to find a model of auto or assisted enrolment for the self-employed, potentially by placing a new duty on accountancy software providers to enlist their clients onto a pension,” the report stated.

A Department for Work and Pensions spokesperson said: “It is vital that everyone is able to save for retirement and the self-employed are no exception.”

“Our recent review of automatic enrolment, which consulted with the industry and relevant groups, highlighted that there is no single or simple solution to meet the needs of this diverse group,” the spokesperson continued. “We will be trialling approaches later this year to understand what works and the industry – including Nest – continues to offer a range of products for the self-employed.”

Is accountancy the answer?

A number of delivery methods have been suggested for self-employed auto-enrolment, including via self-assessment tax returns and an increase in national insurance contributions. That plan was effectively killed off when chancellor Philip Hammond was forced to U-turn on a rise in class 4 national insurance contributions as part of his 2017 Budget.

The technology to enrol people via accountancy software may well exist, said Tom McPhail, head of retirement policy at platform provider Hargreaves Lansdown.

But he said doing so misses a much easier opportunity to allow people to continue saving into their old pension when they leave employment, which is also recommended by the RSA.

“We get them in the system and then we let them go,” said McPhail, adding that he expected the notion of giving people the right to take ownership of their pension pot to be a key feature of savings policy in the coming years.

Formal auto-enrolment of the self-employed “starts to feel like a bit too much of a tax”, he noted. “I know that’s one of the reasons the Treasury was quite hesitant about using the self-assessment system.”

Tax overhaul needs caution

Perhaps the most radical of the recommendations made by the RSA is the call for an overhaul of the marginal rate pensions tax relief system, which is commonly said to be overly complex.

“This system is regressive,” the report stated, adding that many self-employed people are on low incomes. “This group of workers will continue to face penury in old age unless we grapple with a more fundamental question: where will the money to save come from?”

Instead the RSA has called for a flat rate of tax relief of 30 per cent, to be presented as a top-up or “tax bonus”. This would ensure that each tax band receives a share of total government tax relief that is proportional to their share of total pension contributions, and has been claimed to be cost-neutral to the Treasury.

“While we accept that... the tax system is in that regard regressive, we’re a little bit concerned about throwing the baby out with the bathwater,” said John Wilson, head of technical at JLT Employee Benefits.

He said the notion of a top-up would be much easier to communicate to savers, but added that it is as yet unclear what the impact would actually be on savings, especially for those self-employed who are not basic-rate taxpayers.

“What’s being suggested here is almost that higher earners subsidise lower earners,” he said.

Self-employed need flexibility

A greater limit on self-employed saving might be the lack of flexibility in the current system, argued Wilson.

The RSA paper backed mastertrust Nest’s proposed sidecar savings product, which would divert a portion of contributions into a 'rainy day' fund, making lower earners more resilient against income shocks.

But at the same time, it questioned how helpful the lifetime Isa has been, recommending that the government clarify the purpose of the savings vehicle.

Michael Johnson, the Centre for Policy Studies research fellow who proposed the Lisa, said the current product was not exactly as he had imagined it.

“Today’s incarnation is far more complicated, which is counterproductive, and partly explains the very limited number of industry providers,” he said. “The complete absence of any banks in the market is also a serious concern.”

Nonetheless, he said its flexibility, and the combination of the top-up and tax-exempt withdrawal should make it a good option for savers.

Further calls for default pathways and CDC

The report supported Johnson’s proposals for a system of auto-protection, involving a default drawdown rate of 5 per cent, with residual pots annuitised at a later date. The RSA joins a growing list of organisations calling for default pathways to insure against longevity.

More controversially, it also called for the use of collective defined contribution to provide this guarantee of income.

The key to implementing CDC is to clearly communicate what is a complex product, said Daniela Silcock, head of policy research at the Pensions Policy Institute.

People from the Netherlands often complain about the cuts that have had to be enforced during times of financial stress, she noted, but added: “If you compare them to say individual DC schemes here, they’re still getting a much better return.”