Commenting on draft legislation for implementing the Smith Commission agreement that was published by the UK Government today, David Gordon, a senior consultant in Towers Watson’s Edinburgh office, said:

“Holyrood will not have the power to change the key features of pensions tax relief – these are reserved for the UK.  But it can indirectly change how much tax relief is worth by altering the tax rates that apply at different income levels.

“Today, the UK Government has said that it will need to work closely with the pensions industry on how Scottish income tax rates and thresholds should affect the operation of pensions tax relief. It is updating its existing regulation-making powers to ensure it can make whatever changes it thinks are necessary.

“People contributing to an employer’s Group Personal Pension or to NEST do so out of post-tax income: tax relief comes in the form of a top-up from HMRC. In future, the size of the top-up that the scheme has to claim may differ according to whether the saver’s main residence – based on how many nights they spend there – is in Scotland or another part of the UK.

Piggy Bank 3“Previously, HMRC has told pension providers to be ready to do this by 2018. The system changes necessary will inevitably cost money, which ultimately comes out of the charges that savers pay.  And for people who split their time fairly evenly between two homes, it may not be obvious which their main residence is until the end of the tax year.

“In the meantime, top-ups would stay the same right across the UK even if Scotland did do its own thing on income tax. To make up for this, Scottish pension savers would pay more income tax if their top-up had been too big or less income tax if it had been too small.  This would only affect people contributing to pensions directly, and not those who have ‘sacrificed’ part of their salary in exchange for a higher employer contribution.

“This issue doesn’t arise for defined benefit schemes or for most of the defined contribution schemes overseen by trustees. Here, any employee pension contributions simply come out of pre-tax income, so the rate of tax relief will automatically be correct regardless of what the Scottish Government chooses to do. However, any scheme that administers pension payments could have to deduct different amounts of tax from the payments made to pensioners in Scotland and those in the rest of the UK.”

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