Government cuts to tax credits spark concerns over pensions

Proposals to cut tax credits by £4.4 billion have fuelled concerns that government policies tend to favour pensioners but put financial strain on families and low-income workers.

Chancellor George Osborne’s decision to cut the tax credit bill is part of his aim to replace the UK deficit with a surplus of £10 billion by 2020, a target that, according to the shadow chancellor, could be ‘less excessive’.

If Osborne was to go ahead with the proposed cuts, which have now been delayed due to a majority vote in the House of Lords, around three million families could be £1,000 worse off on average each year. On the other hand, pensioners are statistically better off than ever before with an average income higher than the rest of the population and that is expected to rise for the next decade.

This has created concern among some families and employees who may fear that the government protects the elderly at their expense.

Are pensioners protected?

Since April, people aged 55 and over have been able to cash in their entire pot if they wish to, up to 25% of which is tax free and the remainder is considered taxable income. Pension savers also receive tax relief on contributions and tax-free growth*.

However, pensions may also change further as Osborne considers scrapping immediate tax relief and making withdrawals tax free, a move which is anticipated to cause as much controversy as the cuts to tax credits, and may discourage people from saving into a pension.

The delay in cutting tax credits has provoked some politicians to suggest raiding pension tax to bridge a gap in the budget, which indicates that government policies are not always in favour of pensioners despite what some may think.

The likely outcome

It is likely that we’ll see changes made to both working tax credits and pensions tax relief:

Following the rebellion in the House of Lords, Osborne has pledged to soften the impact of the cuts to tax credits so that low income workers will not be hit as hard.

With regard to tax relief on pensions there have been two key suggestions for reforming the system. The first is to scrap tax relief and make withdrawals tax free. The second is to introduce a flat rate of tax relief on contributions, perhaps around 30%, which should make the system easier to understand and also ensure that there is still have an incentive for everyone to save into a pension.

The decision on potential reform to pension tax will be announced in the next budget.   

What do you think of the decision to cut tax credits? Would you save into a pension if tax relief was scrapped? Let us know with a comment below.

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Important information

Tax treatment depends on individual circumstance and is subject to change. 

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