David Prosser: A progressive Chancellor would look at pensions

There are just four weeks to go to his autumn statement, and the Chancellor needs all the help he can get with ideas for hitting borrowing targets that look increasingly challenging, given the way growth continues to disappoint. One contribution definitely worth considering comes from Centre Forum, a think tank with close links to George Osborne's Liberal Democrat Coalition partners. It proposes a cut to pension tax breaks – the challenge for Mr Osborne would be to explain why such a policy, characterised in the past as an attack on middle England, is actually more of the "we're all in this together" kind of thinking.

The tax break that really irks the think tank is a popular one: the option for those with private pensions to take up to 25 per cent of their funds as a tax-free lump sum on retirement. The cost of that relief is £2.5bn a year, according to HM Revenue & Customs – Centre Forum thinks some of the money should be clawed back by making lump sums taxable above the higher-rate income tax threshold at the 40 per cent rate.

The effect would probably be that that many higher-rate taxpayersopted to take a smaller lump sum on retirement, choosing instead to buy more annuity income with their funds. Since these pensions are taxable in the normal way, the tax take from retirement annuities would be higher in future, perhaps by as much as 5 per cent a year, according to the think tank.

It is a powerful argument. Wealthier savers do receive a disproportionate share of the billions of pounds spent every year on pension tax breaks – not least because they also get higher-rate relief on pensioncontributions. And while there have been some attempts to curb the cost of these reliefs, chiefly by imposing a lifetime limit of £1.5m on privatepension funds, it is still possible, on retirement, for someone to take as much as £375,000 from their savings without paying a penny of tax.

The Chancellor would need to tread carefully. The tax-free lump sum is one of the most important reasons why people choose to save for old age via private pensions rather than, say, an individual savings account where their money otherwise gets the same level of tax relied but is not locked up.

Still, those who would be affected by such a move would still be entitled to take, at today's thresholds, more than £40,000 as tax-free cash on retirement. And they are likely to be the sort of people for whom Isas do not provide sufficient investment allowances for their savings.

Moreover, this would be a progressive tax reform. Too many of the Government's attempts to raise more tax have been regressive – look at yesterday's VAT figures from the Office for National Statistics, for example.