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Pension death tax reforms could crush families of freelancers and small business owners

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Public affairs financial experts are expressing concerns that a Labour government may introduce changes to pension taxation that could significantly impact freelancers, solo self-employed individuals, contractors and directors of limited companies with Self-Invested Personal Pensions (SIPPs).

The reforms dubbed a “death tax” by critics, could see increased taxes on pension funds inherited after death, potentially diminishing the financial security intended for beneficiaries. While the Labour Party has not released concrete details on pension or inheritance reforms, speculation has fuelled concerns among those who rely on SIPPs for retirement planning.

For freelancers and the self-employed, who often lack access to traditional workplace pension schemes, SIPPs are a crucial tool for securing their financial future. The potential for increased taxation on inherited pension funds could discourage contributions and undermine the long-term viability of SIPPs as a retirement savings vehicle.

Directors of limited companies with SIPPs also face uncertainty regarding the proposed reforms. The potential impact on company finances and personal wealth could have far-reaching implications for both business owners and their families.

Tom McPhail, a public affairs director at financial consultancy Lang Cat, believes that the current tax rules for money left in a pension after death are very favourable. He points out in a report by The Telegraph that many people use pensions to protect their wealth from inheritance taxes. He thinks a Labour government, which is interested in taxing wealth, might change these rules. McPhail warns that they could introduce a new death tax on pensions or make them subject to inheritance tax, and sees this as a real possibility if Labour comes to power.

He said in the Telegraph report, “It seems a very soft target for a Labour government which is ideologically inclined towards wealth taxes and which has already taken most other tax rise options off the table.”

McPhail proposes the Labour Party could adopt a flat tax rate and implement new taxes on pensions, such as subjecting them to inheritance tax or other death duties.

He said, “There is definitely a real risk that this [a pensions death tax] could happen [under Labour].”

Labour Party: is pensions death tax part of its plans?

A Labour spokesman said, according to the report that a pensions death tax is “not Labour policy”.  The Labour Party will indeed guarantee the triple lock and “won’t stand by as the Tories rip apart national insurance contributions and risk the state pension or the NHS.”

However, if you scrutinise the wording, not all is crystal clear. The spokesperson mentioned “the system”, referring to the state pension, not private pensions.

Comparatively, the self-employed are the group of workers in the UK with the lowest pension contributions or size of pension pit already putting them with less financial security in their later life.

In 2022 the self-employed pension participation rate was 10%. Public sector employees have the largest pension contributions at around 85% with private sector employees of companies with more than 10,000 employees at about 78% and private sector employees of companies with less than 10,000 people at around 25%, according to the IFS Family Resources Survey, 2010–11 to 2022–23.

Critics argue that any changes to target those who have diligently saved for retirement could disproportionately affect individuals who rely on SIPPs due to limited access to other pension options. The Labour Party could maintain that future reforms are necessary to address wealth inequality. However, if a solo self-employed person has worked tirelessly for decades to build that pension pot their families could be asking ‘why should we be financially punished for it especially as the cost of living will only rise?’

As the debate continues, freelancers, self-employed individuals, and small business owners are urged to stay informed about any proposed changes and consider seeking professional financial advice to navigate the potential impact on their retirement plans.

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