End the Twenty-Five Year Freeze!
In my previous blog post I described my struggles trying to get a fund and retail platform to accept part of this tax year’s SIPP [Self-invested personal pension]contribution allowance of £3600 (£2880 net, plus £720 tax relief for those not in paid employment).
I started to reflect on the limitations of such a small incentive to enhance my pension.
To
my amazement, that particular SIPP allowance has stayed the same in nominal
terms since 6th April 2001 when the Stakeholder Pension Regulations of 2000 came into effect – twenty-five years ago.
To have kept pace with inflation since then the original £3600 allowance would need to have risen to about £7700 in 2026.
It’s worth
noting this was a Labour government introducing a measure to help people save
more for their old age. The original legislation highlighted the flexibility of
the tax regime aimed to make the stakeholder pension “a worthwhile, friendly
and mass market product”.
In this post
I propose returning to that simple goal by increasing this particular SIPP
contribution limit at minimal initial cost to the Treasury, and start a
campaign to end the twenty-five year freeze!
Doing this
would reanimate an overlooked allowance, whose potential to be used by everyone
not in paid employment, including children, could form part of a much-needed
campaign to encourage people to invest for their old age.
The tiny
annual drip into my SIPP
As of tax
year 2026/7 the maximum amount someone under the age of 75 and not in paid
employment can contribute to a SIPP is £2880, which the government then tops up
by £720 to make a gross total of £3600 a year, the equivalent of £300 a month.
Imagine
someone starting a SIPP today at age 55, and continuing until the current age
limit of 75.
Under the
current allowance, two decades from now, assuming 3% annual inflation and an
unchanged contribution limit, £3600 will have a purchasing power of about
£1993, 45% of its real terms value depleted.
Assuming
positive inflation, each yearly payment between now and the end of two decades
is lower in real terms, thus able to buy fewer carer hours, less care home
time, less medical treatment, fewer prescriptions when those needs crowd in all
at once towards life’s end.
The ideal
solution would be to increase the contribution limit, say to £5000, and the 20%
tax relief commensurately to £1250 raising the overall limit to £6250, and uprating it over time in line with inflation.
However, in
the current and future political climate, that is unrealistic - the Treasury
would baulk at such largesse.
So why not
increase the annual SIPP contribution limit for non-employees to £5000, but
cap the tax relief at the current £720 per annum, raising the overall limit
to £5720 per year?
The magic of
compound interest over two decades means even this small increase in the
contribution allowable each year, despite no additional tax relief, could make
a huge difference to the final SIPP lump sum.
Worked Examples
Simplifying
drastically to make the overall point: assume 7% annual growth rate of
investments, a lump sum invested at the start of each tax year, no withdrawals
until the end of 20 years.
1. Twenty
years under the Existing limit
£3600 gross
invested at the start of each tax year, 7% p.a. growth
Final lump sum:
£157,914.64
25% tax free
lump sum: £39,478.66
75%
potentially taxable: £118,435.98
2. Sipp contribution limit raised to
£5000, tax relief capped at the existing £720
£5720
gross invested at the start of each tax year, 7% p.a. growth
Final lump sum:
£250,908.81
25% tax free
lump sum: £67,727.20
75% potentially
taxable: £188,181.61
Under this
proposal the final pension pot is nearly £100,000 larger than under the current
system, despite only just over £2000 per year additional contributions permitted, and
no additional direct tax relief.
The Treasury
would instinctively shudder at the prospect of expanding an existing tax-free
umbrella, however modestly, if only to the extent that even with my proposal of
retaining the existing £720 tax relief cap, investments within SIPPs would still be exempt
from capital gains tax and dividend tax before drawdown.
Against that,
with my proposal of a higher contribution limit each year the larger final pot
taxed at 75% would generate higher tax revenue. Also, with pensions now subject
to inheritance tax, higher final pension pots left unspent at death would
increase inheritance tax revenue.
A larger
contribution limit could increase the supply of risk capital
Another
potential positive spill-over, using my case as an example: having a higher
contribution limit would enable me to take more risk at the margin, potentially
funding growth-focused investments like smaller companies to a greater extent
than the current restrictive limit allows.
Higher
pension contributions would also generate higher fees for retail platforms and
investment managers…!
Highlighting
Junior SIPPs for building wealth on the far horizon
An Enhanced Junior
SIPP contribution allowance could highlight ultra-long-term saving for children.
One concern many parents have about the Junior ISA is that at age 18 any funds
become immediately accessible to the children.
With a Junior
SIPP, although the pot reverts to the child’s control at 18, it would not be
accessible until about forty years later under current rules.
The Treasury
might again step in and query why they should enhance an allowance likely to be
‘maxed out’ by the more affluent. But why not look at it another way? Even a
modest one-off contribution from a less affluent family left to grow for fifty
years could make a significant boost in later life.
Example 1: If
an older relative or family friend contributed a mere £800 to a Junior SIPP
(grossed up to £1000 with tax relief) at age 10, and nothing else was added, if
allowed to grow until aged 60, assuming 7% p.a. growth, the final sum would be
£29,400.
Example 2: Were
the full revised contribution limit I suggest of £5720 (£5000 contribution
limit plus relief capped at £720) invested at age 10, and nothing else added,
the final sum over 50 years at 7% growth p.a. would be over £168,000.
Such a move,
if marketed astutely, might help assuage some of the recent disquiet at the reduction
of the cash ISA limit from £20,000 to £12,000.
If the
forthcoming restrictions on cash-like investments in ISAs are not applied to
Junior SIPPS then family and friends, grandparents and godparents who are
risk-averse could feed some of their otherwise blocked out ISA cash savings to the younger generation.
The enhanced Junior
Sipp’s ultra long-term commitment and time horizon, augmented by the 20% tax
relief, could provide a personal finance education opportunity.
What are the chances…?
Given the
changing temper of the times, even this small opening of a greater window for
self-reliance and self-provisioning may have little hope of success.
Indeed, it’s
possible merely mentioning the allowance for non-working people may prompt some bright spark in a
Labour think tank or the Treasury to propose abolishing it, given the current seemingly exclusive focus on 'working people'.
I simply
offer the proposal as a way of offsetting my anxiety at what I fear is the
regime change about to once again make providing for one’s own old age an even
harder struggle.
An ironic coda
One ‘ironic’ consolation arises from the more likely policy change of the government increasing income tax rates by 2% to 22% to more than fund a 2% reduction in employee National Insurance rates, as has been mooted by several Left-leaning think tanks such as The Resolution Foundation.
Were that to
happen, assuming the SIPP limit stays at £3600 gross, I would only need to
contribute £2808 per year, because of the higher rate of taxation at 22%, a
saving of £72.
I suppose the
Treasury could take a leaf out of my book, and leave the tax relief fixed at
£720.
A
challenge for Starmer’s successor
Increasing
the SIPP contribution allowance in the way I suggest will cost virtually
nothing in the short term, indirectly aid growth, and potentially reduce future
late age pensioner dependence on benefits, and thus public expenditure.
Presented as part
of a package to encourage more people, in this case mainly children and older
people, to invest for the long-term in a SIPP, the relatively minor concession
could provide a useful counterbalance to the increased restrictions and
taxations about to disturb an already fragile and under-developed investment
landscape.
I will judge
the post-Starmer government in part by whether it responds to what I hope is a
simple, imaginative and low initial cost proposal to end the Twenty-Five Year
Freeze on SIPP contributions for those not in paid employment.
‘Non-working’
people need help as well!
