Friday 20 April 2012

Outbreak of commonsense

From The Daily Mail:

Millions of people are ‘abandoning’ pensions and turning to tax-free Isas, a major report reveals today.

It accuses Britain of having a ‘failing pension architecture’, which is ‘hugely complex’, ‘unattractive’ and lost in ‘a forest of regulation’. The Institute of Directors’ study says faith in pensions is ‘dwindling’, with soaring numbers switching to the tax-free Individual Savings Accounts.

The latest figures from the Office for National Statistics show Britons put £22.9billion into a pension, such as a company scheme or a personal pension, in 2009 – a decrease on £24.9 billion in 2008 and £25.6 billion in 2007*. By comparison, they put £44billion into Isas during the 2009/10 tax year, according to HM Revenue and Customs. This rose £10billion to £53.9billion last year.


* This must mean individual contributions not employer contributions and net of the tax breaks, as total gross contributions incl. tax breaks are in the order of £80 billion, and the tax breaks are in the order of £30 billion (ignoring contracted-out NIC).

1. The usual justification for the insane tax breaks for pension saving (three-quarters of which are soaked up in fees and commissions) is that "we have to encourage people to save" and by implication "if we didn't encourage people to save, they wouldn't save at all", but this is proven, yet again, to be complete nonsense.

2. Yes, there are some superficial modest tax breaks for saving in an ISA (which are also probably soaked up in fees and commissions, to be honest) but let's gloss over tha, we can safely assume that those people saving into an ISA would have saved anyway even without the modest tax breaks.

3. The stat's show that there is little or no need to encourage a large chunk of the population to save as they'll do it anyway, let's say that's 50% of the working age population. Then there are people who are either spendthrifts or simply have no spare income, they'll never save, regardless of incentives, let's say that's 40% of the population.

4. So the tax breaks (£30 billion) are all spent on chivvying that marginal 10% of the population who wouldn't otherwise have saved into saving (whether pension or ISA or otherwise). The marginal 10% save up £8 billion (£80 billion x 10%), so the cost of the tax breaks is four times the amount saved. And those £8 billion savings might simply represent underpayments on a mortgage, so are not real savings (i.e. deferment of consumption) at all.

5. Even if that £8 billion represents deferred consumption, the purpose of saving up in the good times is to spend it in the bad times. The real benefit from saving is the extra marginal happiness you get from spending £5,000 every year of your life instead of spending £10,000 a year in the good times and £nil in the bad times. It is not an absolute loss, the point is just that the extra £5,000 you could have in the bad times bring you far more happiness than spending £10,000 rather than £5,000 during the good times. It's called 'marginal utility'.

6. So the £30 billion tax breaks increase the happiness (marginal utility) of the marginal savers by perhaps £2 billion (a quarter of £8 billion). That seems like a colossal waste of money to me.

Right, now all we need to do is explain to people that the best form of saving is paying off your mortgage, and even better than that is taking out a smaller mortgage in the first place, job done.

24 comments:

Lola said...

Tel you something else, the Daily Mail is at least 23 years behind the curve. People sussed that PEPs (remember them - Maggi's ISA) were 'better' than pensions years and years ago.

Plus, FYI it is entirely possible to get a cheap investment ISA.

Mind you when you look at cash ISA rates and compare them with gross term deposit rates you can patently see the manager taking most of the tax relief.

Mark Wadsworth said...

L, ta. Normally when I do financial services you shoot me down in flames. Why on earth Labour rebranded "PEP" to "ISA", apart from inadvertently offending a few Muslims, is a mystery to me. It's the same thing, isn't it?

Curmudgeon said...

Equity ISAs generally incur no more charges than the underlying funds.

ISAs effectively merged TESSAs and PEPs.

Mark Wadsworth said...

C, ah yes, it's all coming back. TESSA was cash and PEP was for shares, ta.

Sarton Bander said...

>"we have to encourage people to save" and by implication "if we didn't encourage people to save, they wouldn't save at all",

Similar to the reasons for child benefit
"we have to encourage people to have children" and by implication "if we didn't encourage people to have children, they wouldn't have children at all"

Mark Wadsworth said...

SB, wrong.

The real reason for ChB is because it's the easiest way to reduce out the "mother-versus-everybody else" pay gap. Most women work, and the loss of earnings (justified or not) from taking a few years off and then starting again at the bottom is more than any ChB they receive. It's a far better way of doing it that all this equality legislation nonsense.

Lola said...

PEP to ISA was a Brownism. PEPs were successful, so he couldn't have that. Tessa's were a joke - just them same issue as Cash ISA's - the manager took all the tax relief.

Everyone in my business with any common sense (so, not many then) have been trying to get all this simplified fo ever. Just have one non-pension tax 'free' account for savings and / or investments. But, no, those politicains do love their confusion marketing.

Personally I loathe all this crap, and the complexity of it all. No one would be more happier than me isfall the stupid rules and regulations were hugely simplified or scrapped.

Tell you something else, I was speaking with a technical help desk to which we subscribe the other day, and I made this point. The blokey was of the opposite opinion, since all this nonsense gave him a job. I mean to say, really, what can you do?

The Cowboy Online said...

I love the way you say "insane tax breaks" Mark, you do really seem to think - as does the government - that money saved by, and so spent by, individuals is a cost to society, and that the only proper and just spending is by government.

Woodsy42 said...

"of saving is paying off your mortgage, and even better than that is taking out a smaller mortgage in the first place, job done"

That doesn't solve the problem of where to put any money you might want to put by for the future. I suppose people could always buy a buy-to-let so some other poor sucker without a deposit to their name pays off the mortgage :-)

Mark Wadsworth said...

TCO, are you doing wilful and deliberate misquoting of everything I have ever said to annoy me?

For your info: one man's tax break is another man's tax burden. The rest of us are being asked to cough up £30 billion in order to persuade 10% of us to save up (maybe) £8 billion. That seems f-ing insane to me.

If you took the time and trouble to actually read what I say you would know perfectly well that I am a small government, low tax, free market liberal kind of bloke.

Sarton Bander said...

>The real reason for Pensions is because it's the easiest way to reduce out the "pensioner-versus-everybody else" pay gap.

Mark Wadsworth said...

W42: "That doesn't solve the problem of where to put any money you might want to put by for the future."

Agreed. Under Home-Owner-Ism, we have to have inflation to help transfer wealth from savers to land owners and borrowers.

This greatly reduces, but does not cancel out, the inherent advantage in spreading consumption more evenly. So even if the choice is

a) spend £10,000 a year now and £nil in retirement; or

b) spend £5,000 now and spend (effectively) £3,000 in retirement (after adjusting down for inflation),

then you are still better off with (b).

Mark Wadsworth said...

SB, what on earth relevance does that comment have to do with this post, which is about people's propensity to save?

Old BE said...

The system is absurdly complicated. I put a certain amount into an official pension provider every month but the only tangible benefit I can see is that my personal allowance is increased a little bit. The actual investments don't seem to have done that brilliantly. I think I would almost certainly have the self discipline to make better investment decisions myself (which over the last few years would probably have been to stay in cash!) but I can't get any tax benefit from that.

People are allowed to buy into REITs within their pension envelope, why am I not allowed to put my home into my pension pot? After all, we keep being told that our homes are our pensions...

chefdave said...

I don't need to save, my house is my pension ;)

Mark Wadsworth said...

BE, we're drifting off topic, but subsidies for land ownership are the most insane subsidies of all. I suppose the reason that you can have REITs shares in your pension and not your own house is because the lads in the City can earn money from running REITs but not from you renting your own home back from yourself.

CD, nice one. A good alternative to actual consumption deferment and real investment is hoping that the government will create high inflation and restrict housing supply; it's worked very well so far.

Sarton Bander said...

Just think you're arguing for special pleading for your favoured group.

Mark Wadsworth said...

SB?? I still don't see the relevance to a post about people's propensity to save.

Lola said...

Why is sooooo difficult for many people to grasp that their subsidy/tax break is someone else's cost? Or vickie verkie?

Bayard said...

"The rest of us are being asked to cough up £30 billion in order to persuade 10% of us to save up (maybe) £8 billion."

Er, no, from above: "the insane tax breaks for pension saving (three-quarters of which are soaked up in fees and commissions)..."

The man on the other end of Lola's phone line got it in one: the rest of us are being asked to cough up £30 billion in order to provide people like him with jobs, same as fakecharities, quangos, fakeprivatecompanies, nationalised banks, foreign "aid" etc. etc. ad nauseam.

Mark Wadsworth said...

L, because the government has an endless pot of money and there is no connection between the two? Except when there is, e.g. "Tories introduce Granny tax to finance 5% tax cut for very high earners"

B, good point, allow me to rephrase that:

"The rest of us are being asked to cough up £30 billion in order to persuade 10% of us to save up (maybe) an extra £4 billion and to create x0,000 jobs in paper shuffling"

Ken Reay said...

Mark, have you considered the following possibility:

Some of those who are saving into a private pension fund have realised, that by putting money in a stocks ISA, they can invest in the same shares as the (pension) fund manager, then by switching, still within the ISA to income shares get the money out tax free. Up until now (ending of age allowance), for many people that was worth considering to minimise tax when living on pension. Plus, they are not locked into an Annuity, so can possibly leave the capital to their children (or whoever).

Mark Wadsworth said...

K, oh yes of course. By and large, you do just as well buying shares directly, via an ISA is slightly better than directly, but the difference is not huge.

Admittedly there's no tax relief on the way in (that largely disappears in commissions etc) but there's much less tax on the way out. Plus, and the value of this is difficult to quantify, you have complete flexibility with what to do with your own money, you can roll up, draw down, give it away, take it abroad, leave it to your kids, without filling out a zillion forms to be rejected by a zillion bureaucrats.

That's why the pension companies will never see a penny of my money :-)

Mark Wadsworth said...

oh by the way, don't worry about this "ending of the age allowance", it has not been ended, no sir, that's just Daily Mailexpressgraph propaganda, and even if it had, this does not detract from the fact that saving via ISAs is broadly speaking just as good as saving via an official approved regulated etc pension scheme.