The government has been warned against attempting to plug funding holes in government spending by altering the rules surrounding pension tax relief.

Its warning has come after Department for Work and Pensions (DWP) spokeswoman, Baroness Buscombe, told the House of Lords on 25 June that the government was prepared to re-examine pensions tax payments, in response to concerns that low-paid workers in net pay schemes are losing out on relief.

Low-paid workers currently receive no tax relief on pension contributions if their net pay is less than £11,850, the basic-rate tax threshold. If they pay into a relief at source scheme, however, a 25 percent bonus is automatically added by their provider.

Baroness Buscombe told the House that although the government recognised the different impacts on pension contributions for workers who earn below the personal allowance, it had not been possible to identify any straightforward means to “align the effects of the net pay and relief at source mechanisms more closely for this population” to date.

Nevertheless, she confirmed that the government would examine the processes for payment of pensions tax relief alongside further work on changes to the auto-enrolment regime.

AJ Bell senior analyst Tom Selby said that denying the lowest earning savers the tax relief they are due was “clearly wrong” and that the government was right to consider solutions to deal with the problem.

“By raising the issue of pension tax relief reform, however, Baroness Buscombe will inevitably inflame concerns more radical changes could be pursued,” he said.

“Given the £20 billion funding promise to the NHS made by the Prime Minister early this month, many now fear retirement savings incentives will be caught in the crossfire.”

He added that while radical ideas —such as introducing a flat-rate of tax relief for all — have been floated by a number of commentators as a way of ensuring that those in net pay schemes don’t miss out on pensions tax relief, nobody had yet articulated how such a system would work in reality.

“Given the sensitive stage we are currently at with automatic enrolment, it is essential any changes to pension tax relief are motivated by encouraging more people to save for retirement, rather than attempting to plug a funding hole in a different area of government spending,” added Selby.

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