Darling to tax the rich and hit pensions

The Chancellor is poised to hammer Britain's pensioners when he unveils proposals to cut tax incentives for contributions in Wednesday's pre-Budget report.

In a speech expected to be short on sweeteners and long on austerity, Alistair Darling is set to introduce a range of measures intended to start plugging the hole in the UK's finances, already larger than £175bn. However, he will pull back from announcing swingeing public sector cuts.

Britain faces the ignominy of its credit worthiness being reduced if the Chancellor's plans to tackle the deficit fail to convince ratings agencies.

Top earners are thought most likely to bear the brunt of any tax hikes as the Chancellor reveals what's likely to be a politically charged pre-Budget report ahead of next year's general election.

The Treasury refused last week to rule out a second raid on private pension funds in a year, with incentives for top earners likely to be cut.

"Changes to the taxation of this industry would be disastrous," said Peter Vipond, the director of financial regulation and tax at the Association of British Insurers. "The Government has already made significant changes to the tax regime. To do so again would make it hugely difficult for the UK's world-leading pension industry to continue to sell its products."

Millions of public-sector workers could be hit by an overhaul of the £100bn local government pension scheme, with the closure to new entrants of the final salary scheme likely. It is believed a "career average pension" will be offered to new entrants, to help reduce the chronic shortfall in public-sector pension funding.

With Mr Darling believed to be storing up electoral presents for March's Budget, Wednesday could see him float more unpalatable policy ideas including a review of the zero-rate VAT levied on essential purchases such as food and children's clothing. Estimates suggest that such a move could be worth as much as £15bn to the public coffers. However, it's believed that the Chancellor will resist a move to increase the normal rate of VAT from 17.5 per cent to 20 per cent.

Mr Darling is expected to scrap an increase in the threshold for inheritance tax to £350,000, while Capital Gains Tax (CGT) could also be increased.

Mary Monfries, the head of UK private business at the accountants PricewaterhouseCoopers, said: "A rise in CGT may in theory be seen as part of a solution to help bridge the fiscal gap, but serious thought should be given to the unintended consequences this would have on investment and entrepreneurial growth."

Mr Darling is expected to say that Britain's budget deficit is likely to be higher than the predicted £175bn, but less than £200bn. He will also seek to concentrate on the UK's likely exit from recession, which may have come in the third quarter of the year. A revision of construction figures by the Office for National Statistics on Friday indicates that the economy probably stopped contracting in the autumn and may have grown out of recession.