Wednesday, October 12, 2016

The UK's Draconian Pension Reforms?

Kate McCann and Katie Morley of the Telegraph report, Government's 'draconian' pension reforms have backfired, experts warn, as OBR says changes will cost billions:
George Osborne's pension reforms will backfire and end up costing the taxpayer billions of pounds more every year as people stop saving for their retirement, the official Treasury watchdog has warned.

The Office for Budget Responsibility said new saving schemes and the removal of tax relief on pensions for higher earners - billed as a move to save money - will ultimately end up costing the Exchequer £5 billion a year.

The watchdog warned that higher earners will move their money to tax efficient investments and may even drive up property prices as a result of the ill-thought through policy.

The Government controversially cut the amount people can save in a pension to £1m through their lifetime. The annual allowance was also cut to £40,000 - despite cuts in interest rates and stock market returns which combined to decimate the value of life savings.

The move was condemned by business groups and pension experts at the time who said it would deter millions of people from saving.

Theresa May is now under pressure to reverse the policy in the forthcoming Autumn Statement after the OBR warned it would also undermine public finances in the future.

Tom McPhail, head of pension policy at Hargreaves Lansdown, said: "The Government urgently needs to rethink its savings policies.

"In the short term fiscal changes such as the lifetime allowance cap at £1m will save it money, however in the longer term the package of various measures such as the pension freedoms, the increased Isa limits and the secondary annuity market will result in a worsening of public finances.

"Investors will simply substitute more tax advantaged products such as the Isa for the pensions where they fact the lifetime allowance cap." The OBR's analysis looked at a series of cuts to tax breaks on pensions savings for high earners since 2010, together with the impact of George Osborne's new pension freedoms.

The Government has reduced the annual pension allowance, the amount people can put into their retirement pots before they have to pay tax, from £255,000 in 2010 to £40,000.

It has also cut the lifetime allowance from £1.8million to £1million today.

Over a million middle to high earners including teachers, doctors, lawyers and managers will have their retirement savings restricted as a result of the lower pensions lifetime allowance.

While the reforms will benefit the economy in the medium term because of increased tax, in the longer term there will be a cost to the taxpayer as people choose to invest their savings in alternative schemes, the report found.

The OBR said that by 2035 the Government's policies will cost it £5billion a year in lost tax revenue.

It states: "In recent years, the Government has made a number of significant changes to the tax treatment of private pensions and savings and introduced a variety of government top-ups on specific savings products.

"In doing so, it has generally shifted incentives in a way that makes pensions saving less attractive - particularly for higher earners - and non-pension savings more attractive - often in ways that can most readily be taken up by the same higher earners."

Under the Coalition Government Mr Osborne also increased the amount people can save in Isas, which led to more people using them to save. The value of adult ISAs had risen from £287billion in 2006 to £518billion.

As a result, wealthy savers are expected to max out newly increased £20,000 a year Isa limits instead of saving into pensions where the tax benefits are starting to look far less attractive.

However the report warns that: "If interest rates were to increase towards historically normal levels, the amount of tax forgone on interest income would increase", adding to the long-term cost of the policies.

The watchdog warned that the Government's assault on pension savings means house prices could rise because more people are investing in housing as a result.

It said: "Measures that change the relative incentive to save, whether in savings or pensions, will also affect the attractiveness of other investments such as housing.

"A number of the measures we cover in this paper could affect the housing market, mostly by increasing demand for housing and putting upward pressure on house prices."
Jim Pickard and Josephine Cumbo of the Financial Times also report, UK budget watchdog warns of Osborne’s £5bn pensions gap:
George Osborne’s various pension reforms in his time as chancellor will blow a £5bn-a-year hole in the public finances in the long term by discouraging saving for retirement, the Budget watchdog has found.

Analysis by the Office for Budget Responsibility, published on Tuesday, found that the reforms had made pensions less attractive compared with other forms of savings, especially for those on high incomes.

The OBR examined multiple changes to the tax treatment of pensions and savings as well as the freedoms given to people to gain access to their retirement funds.

Mr Osborne, who was removed from the Treasury by Theresa May when she formed her post-Brexit vote government, scrapped the requirement for those with private pensions to buy an annuity on reaching retirement and allowed pensioners to sell their existing annuities on a secondary market.

He also oversaw restrictions to the annual pensions allowance and lifetime allowance which lowered annual tax free pensions contributions to £40,000 and lifetime contributions to £1m.

At the same time he lifted the individual savings account limit and introduced several new types of ISA, including the Lifetime ISA, seen as a rival to the traditional pension.

Although the reforms provided a small benefit in the medium term — until about 2021 — over the longer period there would be a significant cost, potentially adding a sum equivalent to 3.7 per cent of gross domestic product to public sector net debt over a 50-year period, according to the OBR.

“In recent years, the government has made a number of significant changes to the tax treatment of private pensions and savings and introduced a variety of government top-ups on specific savings products,” it said.

“In doing so, it has generally shifted incentives in a way that makes pensions saving less attractive — particularly for higher earners — and non-pension savings more attractive — often in ways that can most readily be taken up by the same higher earners.”

Forecasts by the OBR are taken seriously because it is Whitehall’s official spending watchdog. Its report found that “the small net gain to the public finances from these measures over the medium-term forecast horizon becomes a small net cost in the long term”.

The benefit from the reforms would peak at £2.3bn in 2018-19 before turning negative from 2021-22, rising in cash terms to reach £5bn by 2034-35.

Steve Webb, director of policy at Royal London investments group and a former pensions minister, said the report showed the consequences of the Treasury’s “attraction to ISAs and dislike of pension tax relief”.

“Although the overall cost of savings incentives has increased slightly over the long term, the balance has shifted markedly, with pension savers seeing cuts in support and greater incentives for short-term savings,” Mr Webb said.

“For a society with a major shortfall in long-term savings this seems a very odd rebalancing. What the Treasury has given in savings incentives via ISAs and related products it has largely taken away in cuts to pension tax relief, making pensions less attractive.”

The report acknowledged that the “relatively slow pace” at which the changes would affect the public finances would allow future governments to adjust policy if necessary.

Ros Altmann, who was pension minister until this summer, also criticised the changes: “We shouldn’t be spending extra taxpayers money subsidising people to have tax-free pension pots from the age of 60, which will be the case with the Lifetime ISA.”
You can read the report covering private pensions and savings from the UK Office for Budget Responsibility here. The report states the following:
The tax system affects the post-tax returns an individual can expect from investing in different financial assets. The Government is therefore able to influence individuals’ incentives – and so behaviour – by changing the tax treatment of private pensions and savings products. In recent years, the Government has made a number of changes in this area and introduced a variety of government top-ups on specific savings products. This has generally shifted incentives in a way that makes pensions saving less attractive – particularly for higher earners – and non-pension savings more attractive – often in ways that can most readily be taken up by the same higher earners.
I will be brief in my remarks and state any policy that incentivizes people to save less for pensions and more for non-pension savings is absolutely foolish for a lot of reasons, not just lost tax revenue.

When I look around the world at the global pension crunch, and read about these draconian pension reforms in the United Kingdom, it confirms my long-held belief that Canadians are extremely lucky to have the Canada Pension Plan (long live the CPP!) managed by the highly qualified professionals at the Canada Pension Plan Investment Board.

I really hope Quebec follows the rest of Canada and enhances the QPP and I am eagerly awaiting to hear the comments from CPPIB's new (British) CEO, Mark Machin, when he testifies at Parliament at the beginning of November. I'm quite certain he will reiterate why Canadians are getting a great bang for the CPP buck.

As far as George Osborne's draconian, shortsighted and foolish pension reforms, I hope Theresa May swiftly reverses them in the forthcoming Autumn Statement.

The last thing the UK needs is to penalize pension savings and inflate a property bubble. According to UBS, London is second only to Vancouver in a league table of world cities with property markets most at risk of a bubble.

Adding fuel to the property bubble, post-Brexit, the British pound is getting clobbered, making all UK assets (stocks, bonds, real estate and infrastructure) that much cheaper for foreigners.

Interestingly, after the recent flash crash in the Sterling, a buddy of mine who trades currencies sent me this (added emphasis is mine):
GBP is trading like an EM currency without central bank smoothing

The low print was 1.1378 but not many banks are recognizing that, most say its 1.1480 regardless the move highlights the algo (machine) trading problem... with banks not willing to take on risk you will get these moves.

It also counters the argument that hedge fund traders (algos) make/ provide liquidity and narrow spreads..something I have been arguing against all along. They front run the flow and force the price to gap until the true liquidity is found and since we have a scenario where the real liquidity providers are not providing liquidity any more (as a result of reduced risk implemented by regulators) you will get these moves. The banks don't honor s/l orders anymore, they will fill you at the next best price (yeah sure, once they take their mandatory spread which is guaranteed profit at no risk).

You essentially have very little recourse (they will say we don't want to lose you as a client so we will do our best (our best for themselves, not the client) and since almost all banks are acting the same way, where can you go... they say it's not them it's the regulators.
I can only imagine how many UK and other large global macro hedge funds are getting crushed taking big positions either way in the pound. Currencies remain the Wild West of investing, and my friend offers a brief glimpse as to why in his comment above.

Below, an advocate for British retirees in Canada says he hopes the Liberals will help negotiate a better deal on their UK pensions. About 150,000 British retirees live in Canada and don't receive annual increases in their UK pension payments.

Successive British governments have refused to index their pensions to keep pace with the cost of living, despite decades of diplomatic overtures from Canadian officials.

Theresa May's government needs to fix this problem too when she (hopefully) tackles pension reforms in the forthcoming Autumn Statement. 

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