Freelancers might need to rethink their pensions

The retirement plans of millions of freelancers and entrepreneurs could be shattered by new Government proposals to dramatically reduce the cap on tax-free annual pension contributions.

It is thought the cap will be around £40,000, which is an enormous drop on the current allowance of £255,000.

The majority of people save a lot less than this but people in final salary schemes could be affected. These schemes are generous and the "nominal" value of a pension could be high enough to push those earning modest salaries over the tax-free allowance.

The previous government's plan to restrict high earners tax relief will be scrapped. Taxpayers in the 50% bracket will see their tax relief on a 40,000 contribution increase from £8,000 to £20,000.

However, there is a price to pay for this concession and that is the removal of the rule that allows people to make unrestricted pension contributions in the year leading up to retirement. That concession was originally put in place to help entrepreneurs and owners of small businesses.

The FSB said this new proposal will harm the four million self-employed people in Britain, many of whom put their money back into their business rather than saving for their pension. They then try to catch up at the last minute.

The Government appears to want people to build up their pension gradually but for many freelancers and limited company contractors, occasional lump sum contributions are the only option.

Pensions experts on the whole have given a cautions welcome to the proposals saying that they will simplify pension planning for most workers. Adrian Boulding, the pensions strategy director for Legal & General, urges the government to set the tax-free allowance at £45,000 and ensure it is index linked to encourage people to continue saving.

KPMG, on the other hand, has voiced concerns over the tight timescale that they say may see some unprepared pension scheme members hit with an unwelcome tax bill for 2011/12.