A need to step up for high earners

As we enter the new tax year, high earners will be feeling the effects of the new tax rules. Foresight considers how employers can prepare to assess and provide solutions for those affected.

Over the current and next tax years we will see increases to the top rate of tax to 50 percent, restrictions on pension tax relief for those with an income of more than £130,000 a year and the loss of the personal tax allowance for those earning over £100,000. In addition, there will be a 1 percent increase in National Insurance contributions for employees from April 2011.

Large numbers of key employees in critical roles will fall into these income bracket(s). Unfortunately, few may be aware of the changes, due to the complexity of the legislation, but will be feeling their effect in their take-home pay, which may have already been reduced by up to 20 percent.

According to Stuart Moment, who leads Mercer’s Personal Financial Planning team, companies share a responsibility towards the financial education of their employees: “Employers need to step up to the plate and adopt financial education programmes as part of their overall benefits packages. Mercer’s Personal Financial Planning team works with employees, including high earners, to help them prepare for legislative changes through a combination of written communication, workshops and individual advice.”

Employers are also coming under pressure to consider changes to their pension schemes and reward packages. Stuart says: “Top-rate taxpayers will expect employers to seriously consider the issues and implications. We have corporate clients whose employees are asking them what they propose to do.”

There could be wider repercussions. Many high earners are directors who make decisions about the company pension scheme. If pension schemes are no longer perceived as tax-efficient for high earners, the incentive to provide general employer-sponsored pension savings will be reduced and could lead to further cutbacks in what is available to employees.

Some companies are being advised to make available compensation (either immediate or deferred) which is not subject to income tax.

However, the Chancellor announced in his 2010 Budget a raft of measures to counter planning designed to mitigate the rising tax bill.

With a new government now in place, it’s now a question of time to see if the Conservative and Liberal Democrat coalition comes up with solutions which could be regarded as tax avoidance schemes. Stuart believes that there will be no immediate effect on pensions, as none of the parties promised to reverse the planned increases on tax before the election. However, to oppose Labour policy, it looks like the coalition government will not increase the level of National Insurance payments for employers.

Mercer warns employers against rushing in with a preferred solution. Companies should develop a strategy incorporating ways to move forward while remaining sufficiently flexible to cope with evolving market practices and new solutions that may be identified later. Further changes may also result from the government’s consultation on pension tax reform, which will take place during the summer of 2010. New legislation is expected in April 2011.

Employers may find their options to deliver tax-efficient remuneration further reduced. For example, the government has indicated that action will be taken to prevent attempts to avoid tax and National Insurance contributions through the use of Employee Benefit Trusts. Anti-avoidance legislation covering these vehicles will take effect from 6 April 2011.

A more workable option may be to introduce an employer-financed retirement benefit scheme (EFRBS) as part of the overall remuneration package for senior people, however, these too are under scrutiny.

Whatever the outcome, one thing’s for sure. “This is more than merely a pensions, tax or legal issue”, says Stuart, “this is one of the biggest HR issues facing organisations in the next few years, and we are already working very closely with clients to help them prepare.”

Mercer has developed a dynamic modeller (CREST) to help companies and individuals understand the financial impact of the tax changes and compare future benefits from a range of alternative approaches. To find out more about this modeller and access other information on the taxation of high earners, including articles and podcasts, visit Taxation of high earners.

If you would like to discuss the implications for your organisation, contact Stuart Moment on +44 (0)121 644 3650 or by e-mail.