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Three ways to fix the Chancellor’s problems

Chancellor Philip Hammond has got himself into a right old mess over plans to increase National Insurance contributions for the self-employed.

The rationale behind the move was perfectly reasonable. Following the introduction of the single-tier state pension in April 2016, self-employed people can build up state pension rights in exactly the same way as employed people.

While they still miss out on other benefits – such as workplace pensions and sick pay – it makes sense to bring the National Insurance contributions of both groups closer together.

However, politics – namely former Prime Minister David Cameron’s unequivocal manifesto pledge not to raise National Insurance during this Parliament – forced Hammond into an embarrassing U-turn, leaving a gaping £2bn hole in his first Budget as Chancellor.

The big question now is: how to plug the gap? Here are three options Hammond might consider:

1. Cut pension tax relief

Whenever the Government needs to raise money, speculation mounts that pension tax perks could be cut away.

The Government spent around £38bn on pension tax relief in 2015/16, so reducing these generous incentives – perhaps by lowering the annual or lifetime allowance – could be tempting.

Treasury financial secretary Jane Ellison has ruled out radical reform of pension tax relief in a letter to AJ Bell chief executive Andy Bell (my boss). This is good news for savers who would benefit from a period of stability in the pension tax system.

2. Reduce pension death benefits

Alternatively, our beleaguered Chancellor could make the tax treatment of pensions on death less generous. At the moment if you die before age 75 your pensions can be passed on tax-free, while if you die after age 75 the money is taxed at the marginal rate of your beneficiary.

These rules make pensions extremely tax-efficient from an inheritance tax point of view – and might well be viewed as overly generous by a Treasury desperate to make ends meet.

3. Curb pension salary sacrifice

Under salary sacrifice, you can agree to give up part of your take-home pay, which your employer then pays into your pension.

By lowering your salary in this way, both you and your employer pay lower National Insurance contributions.

Lower National Insurance contributions mean less money for the Treasury; so it would be no surprise to see these schemes come under scrutiny.

Ultimately there are no easy options for the Chancellor. The Treasury has squeezed the pips of the public finances, so raising £2bn will likely involve more unpopular choices.

We can only hope Hammond resists hitting savers and investors in their pockets when his second Budget of the year rolls round in the Autumn.

Tom Selby, senior analyst, AJ Bell

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