Contractors, will your pension be at risk from Budget 2018?
With the chancellor’s 2018 Budget just one working day away, speculation about its impact on the upcoming financial year is dominating the headlines.
But behind the coverage, the most popular word on every saver’s lips is ‘pensions;’ because of both the curbs announced in 2016 and Philip Hammond’s reported remark of late -- that “tax breaks are eye-wateringly expensive”.
In 2017, the Budgets brought a sigh of relief from some high-earners as no major changes were enforced for pension tax relief, despite the announcement in the previous year.
On Monday however, the warning announced in 2016 could be put into action, warns Angela James, associate director of Contractor Wealth.
Mr Hammond is predicted to announce a decrease of up to 25% in the top threshold for the annual allowance -- the upper threshold to receive tax relief when using a defined contribution pension scheme, dropping from £40,000 to a possible £30,000. In addition to this, the threshold of the annual allowance taper is predicted to fall from a current £150,000 to £125,000.
The mounting pressure on NHS resources has prompted an additional £20.5billion of funding to be plugged in by 2020. This, combined with insufficient universal credit and stagnant public sector wages, means the chancellor is under pressure to find the additional funds from somewhere.
This is expected to impact high-earners by disincentivising saving for retirement and could, should this downward trend continue, also impact the wider population. Is the upcoming Budget, then, just another step out of many more to come, towards diminishing tax incentives for pension savers? How will this impact the contractor and independent professional community, who face more challenges than most when it comes to pensions?
Flexible work allows for flexible conditions
It is estimated that this year, the number of self-employed workers has reached 5million (over 15% of the labour force), with the freelance professional services sector driving this momentum, standing at 2million since 2001.
Among the self-employed group (encompassing all contractors and independent professionals) 43% do not have a pension at all, while those at the top end of this group are now facing a reduction in incentives.
However, the main difference for contractors in this latter category is that they can effectively choose how much they pay themselves, to keep their income below the threshold of when the tapered annual allowance would apply.
As the majority of contractors are advised to make an employer contribution into a pension, this payment is not taken into account when calculating their threshold income. In effect, they could pay themselves a salary and dividends package of less than £110,000 (threshold income) and not breach this first test.
For example, a PAYE salary of £8,424 and dividends of £100,000 equals a £108,424 threshold. As it stands, should an individual make an employer contribution of £60,000 (using the ‘carry forward’ method), although they would exceed the £150k adjusted income (£168,424), they would not exceed the threshold income and so a reduced annual allowance would not apply.
In light of this, we haven’t seen much impact for the contractor community so far. However, should the tax incentives be reduced as predicted, this could soon change. Higher-earning contractors might be faced with a tougher challenge of working less or paying more, meaning it is now more important than ever for them to seek quality advice and weigh up their options. Although this environment still presents more challenges, having the flexibility to control income levels means that contractors are actually better off than their employed counterparts.
Should there be an annual allowance reduction, however, this might have a more notable effect on those that have flexible access to pensions. This is primarily the group of pensioners who ‘officially retire’ but then return to work as a contractor.
We’ve found that, as many clients go into drawdown rather than purchase an annuity when this happens, they can sometimes experience adverse tax consequences. On the whole, we haven’t seen a huge impact for contractors so far, but this may change if this threshold is reduced next week.
So should contractors be concerned?
The biggest concern about the imminent Budget is the possibility that Mr Hammond will announce a complete overhaul of the contracting community by introducing IR35 reform across the private sector. This could no doubt shrink the contracting market as workers might be forced to use umbrella companies where all income will be PAYE. If this happens, then the above tapered annual allowance is likely to apply to more people than ever before.
The other concern is that, should the above predictions ring true, while it may not have any immediate negative impact for our clients and the wider contractor community, it could do in years to come if the threshold is pushed lower and lower. So yes there is the upside of contractors having the flexibility to choose their income and hours worked, but the drawback is that refusing additional, billable hours may put institutions such as the NHS under more pressure.
We will see what happens very very soon for the future of pensions and in the many Budgets to come, but for now, we recommend contractors sit tight, enjoy the flexibility that their work brings and get that quality advice which they might need on stand-by.
Editor’s Note: The author Angela James is an associate director of Contractor Wealth, an established wealth planning practice dedicated to providing financial advice to professionals in the contracting and freelance community. Its sister arm, CMME, is a specialist provider of contractor mortgages.