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Last Updated: Saturday, 24 March 2007, 13:58 GMT
Government's 160m pension saving
By Paul Lewis
BBC Radio 4's Money Box

A calculator
For every 100 we save the government will only contribute 25
Gordon Brown will pay millions less into our pension schemes after tax changes in 2008.

The Budget cut in the basic rate of income tax from that date will also cut the contribution from the Treasury.

Instead of boosting every 100 we save by another 28.20, from 2008 the chancellor will only contribute 25 - saving him 3.20.

Stephen Yeo of actuaries Watson Wyatt, said that will save the government 160 million a year.

He told BBC Radio 4's Money Box programme: "There are about 8 billion of member contributions going into pensions that get basic rate tax relief so this will reduce the amount going into pensions by about 160 million."

Mr Yeo pointed out that when we draw our pension in future it will be taxed. And if the basic rate remains at 20% we will gain from paying less tax then.

Though of course it is by no means certain that tax rates will stay low forever.

Tax back

The cut in contributions happens because for every pound that is paid into a pension the chancellor gives us back the tax we have already paid.

So when we pay 100 out of our net income, he repays the 28.20 tax that has been paid on that (128.20 x 22% = 28.20 leaving 100 net).

So for every 100 contribution we make, a total of 128.20 ends up in the pension fund.

But when the basic rate of tax is cut from April 2008 the tax paid on 100 will have fallen to 25. And that is the amount the Treasury will refund.

So for every 100 we pay in there will be just 125 in our fund.

Increased contribution

To make sure the same 128.20 is paid into our fund we will have to up our contributions to 102.56.

That means some of the extra money left in our pay packets by the tax cut should be used to boost the pension contribution.

That will only apply to people paying into personal pensions and work-based pensions schemes called "money purchase" or "defined contribution" schemes.

Higher rate taxpayers do well and Gordon Brown has helped them do even better
Stephen Yeo, Watson Wyatt

People paying into a scheme which promises a pension related to their salary are not affected as the pension paid is unrelated to their contributions.

And Mr Yeo pointed out that one group will find the tax cut a big plus.

"Higher rate taxpayers do well and Gordon Brown has helped them do even better," he said.

"They get tax relief of 40% on the way in and in many cases they will now only pay 20% when they take their pensions out."

The tax changes will begin on 6 April 2008.

BBC Radio 4's Money Box was broadcast on Saturday 24 March 2007 at 1204 GMT.

It was repeated on Sunday 25 March 2007 at 2102 GMT.

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