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A tax raid on pensions would punch a £1bn hole in company retirement schemes and could spell disaster for dozens of firms, experts have warned.
Businesses which still offer final salary schemes would come under huge pressure if pension tax relief is slashed in next month’s Budget – putting more than a million workers in the firing line.
Sir Steve Webb, a former pensions minister, said: “Words like mayhem spring to mind when thinking of the reform.
"You can’t underestimate just how radical this would be.
"There’s a reason governments haven’t done this before and if they’re going to alienate millions of people then they have to have a really compelling reason."
Anyone earning more than £50,000 a year would be stung by a 20pc tax charge on their annual pension savings under the proposals, which are being considered by new Chancellor Rishi Sunak and Boris Johnson. The crackdown would hit traditional Tory voters hardest.
If the same rules are applied to businesses then those offering a final salary scheme stand to lose £1bn in tax relief, consultant Willis Towers Watson has estimated.
This would plunge their pension schemes into the red, causing a major shortfall.
Firms would have to make up their losses by forcing workers to pay more in themselves or pumping company profits into pension funds which could otherwise be used to invest and grow.
The changes were first proposed by Sajid Javid but have not been ruled out since his exit from Number 11.
Final salary pensions guarantee employees a set proportion of their earnings for life after they stop working.
Although nearly all of the lucrative schemes have been closed to new members, there are still more than a million people saving into them.
Pension tax relief | How does it work?
At present, relief is provided by the Treasury at a saver’s marginal rate of income tax. This means the Government tops up pension contributions from employees and employers at either 20pc, 40pc or 45pc depending on their band.
The immediate effect to businesses would depend on how the Government applied the policy change, particularly when it comes to taxing employees on the value of employer contributions.
David Robbins, of Willis Towers Watson, said one way to do this would be to siphon the tax off from contributions so that less money reached the pension fund.
He said: “In that case the amount going in would not be enough to make provision for the benefits being newly promised.
"So either employers and employees would have to pay more, or the terms on which benefits are promised would have to be cut back. Or of course, the scheme could close."
Employers excluding councils contributed £15bn to final salary and hybrid schemes in 2018, according to figures from the Office for National Statistics.
Of these, Mr Robbins estimated £5bn were used for higher rate taxpayers.
Steven Cameron, of pensions firm Aegon, said the proposal risked leading to the closure of any private sector final salary scheme.
He said: “I don’t think the Government has really thought through how this is going to work. Moving to a flat rate of tax relief raises all sorts of questions about how final salary schemes work. It would make them simply untenable going forward.”
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The plans would also lead to double taxation for hundreds of thousands of people who currently earn over £50,000 and will continue doing so in retirement.
Emma King, of law firm Eversheds Sutherland, said the change would increase the cost of providing final salary pensions.
"Anything that makes it harder is likely to be yet another incentive against offering DB pensions," she said.
There were 1.1 million people in private sector final salary schemes and 6.3 million in the public sector at the end of 2018, according to Office for National Statistics figures.
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