Why have the government decided to distort the tax system by making pensions capable of being used as a device to avoid inheritance tax? The casual approach of the Treasury to pension strategy, with sudden announcements of ill-considered changes, shows a lack of coherent thinking behind the changes in the pension system. This has led to a lot of post-facto explanation and justification to try to cover up the lack of thought prior to the announcement.
Previously, there was a win-win philosophy underlying pension policy. People were encouraged to save in pension funds by giving matching tax relief in the contributions, (a win for the retiree). Then, when it came to retirement, they were forced to insure against longevity by buying annuities or using income drawdown, which ensured extra income for life for the retiree and reduced the likelihood that he or she would have to call on the taxpayer for support (a win for the taxpayer).
Specifically to avoid this tax-break being abused as a means of avoiding inheritance tax, any money left in the fund after the death of a retiree on income drawdown was taxed at 55%. This clause protected the taxpayer, ensuring the tax break given was used for the purpose intended.
Now, with one quick announcement at the party conference, the Chancellor has ripped up the contract between the taxpayer and the retiree and opened the pension system to be used as a means of avoiding Inheritance Tax, at least on the defined contribution side. This move completely distorts the whole point of pensions, which were created to support an individual in a period of life when they cannot earn, not to provide a lump sum bonus on their death to their descendants.
As the majority of the population do not earn a sufficient income over their lifetime to be able to support a retirement and to pass on an inheritance to their descendants, this measure is aimed squarely at the more affluent in society. They can now put their money into their pension safe in the knowledge that their descendants have a good chance of paying less tax on their legacy than they would have had to pay prior to the change.
There is nothing wrong with people using savings products to provide for their descendants, but the logic behind allowing people to use taxpayer supported instruments for doing so is suspect. This is either a direct attempt to funnel money from the average earner towards the higher paid or is a populist notion designed with the forthcoming general election in mind but that was not clearly thought through. Either way, it should be paused until the full implications can be teased out or we are in danger of having the pension strategy become a piecemeal, incoherent tangle, which will not benefit the taxpayer in the long term.
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