What Pension Changes Are Being Made And Who Are They Benefiting?
To encourage “inactive individuals” to return to work, the U.K. Spring Budget includes changes to pension relief to help them build up retirement savings, especially those aged 50-64 who are closer to retirement. A key change proposes to increase maximum annual contributions by £20,000 to £60,000. Individuals would be able to defer tax on this income amount to when they withdraw the pension during retirement, when they likely will have a lower marginal tax rate than when they were employed.
Many countries adopt a pension deferral tax policy to encourage individuals to save for retirement. The United States’ 401(k) plan is another example where individuals can contribute up to $22,500 in 2023, deferring the income tax payment on this amount to the tax year when the amount is withdrawn. These plans are commonly referred to as voluntary or pillar 2 pensions. In contrast, mandatory or pillar 1 pensions are components in required social security contributions, such as those to Old-Age, Survivors, and Disability Insurance (OASDI) in the U.S., or to National Insurance in the U.K.
What Does This Mean For Employers?
Contributions to both pillar 1 and 2 pension plans are administered through payroll withholding, and often include an employer’s contribution portion. It is the norm in many countries for a well-designed compensation package to offer pillar 2 occupational pension contributions. Therefore, changes to contribution limits of these occupational plans may impact assignment cost estimates, especially those using home-based equalization tax policy.
When the U.K.’s Spring Budget change is enacted, assignees opting to maximize their U.K. pension contribution will reduce their hypothetical tax withholding. If the tax-equalized or tax-protected assignment is to a higher tax cost country, the company may bear a greater assignment cost due to the increase in tax reimbursement, or the difference between employees’ actual and hypothetical tax.
Factoring employees’ pension contributions into assignment cost estimates and compensation calculations helps to improve budgeting and payroll processes, avoiding nasty surprises for the employer or employee.
How Can The Equus Tax Engine Help?
The Equus Tax Engine has built-in rules to address pillar 2 or occupational-based voluntary pension contributions. The Tax Team continuously monitors legislative changes, and updates to the Tax Engine are delivered following enactment in the release scheduled closest to their effective date. As of the writing of this blog, the legislative process to enact Finance Bill (No. 2) 2022-23, the accompanying instrument for the UK’s Spring Budget, remains in progress. It is expected to pass into law near the end of April, and the Tax Team will include it in the upcoming v.23.3 release scheduled for end of May, 2023.*
*Changes from the Spring Budget are no longer scheduled for the v.23.3 release, as the legislation will not be enacted earlier than the end of May.
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