The Budget included several changes to the current state pension system.

In confirming the green paper on state pension reform the Budget document states that "Moving to single tier provision would end contracting out for defined benefit pension schemes". A reduction in defined benefit (DB) contracting-out rebates has already been confirmed for 2012.

This would accord with a statement in the Office for Tax Simplification report, issued on 3 March 2011, which confirmed that removal of tax relief on contracting-out, already planned for defined contribution schemes in 2012, should be extended to DB schemes, see News round-up for the week to 10 March 2011: Office of Tax Simplification recommends abolition of DB contracting-out.

A wholesale review of the current public-sector pension system is a key part of the government's pension policy. This has involved a full review of the current system, and subsidiary evaluations of the discount rate used to set unfunded public-sector pension contributions and the "Fair Deal" guidance.

Asset-backed funding has been an increasingly popular way for employers to use non-cash assets to reduce their underfunded DB pension scheme liabilities. A common structure is for business assets to be transferred from the employer to a separate legal entity, which then makes use of the assets to generate income. The income is then paid to the trustees of the pension scheme. For a recent example see News round-up for the week ending 2 July 2010: Diageo agrees whisky-backed partnership with trustees.

A consultation exercise will be undertaken to examine possible changes to the tax treatment of these structures with a view to revising the amount of tax relief available to employers when they make asset-backed contributions to their pension schemes. Currently employers need to seek clearance from HMRC to confirm the amount of relief the employer can claim. The change is aimed at ensuring the tax relief accurately reflects the increase in value of pension plan assets "whilst maintaining flexibility for employers and schemes". The consultation document will be published in spring 2011, with legislation targeted for the Finance Bill 2012 (paragraph 2.184, Budget report and Overview of Tax Legislation and Rates, para 3.57: Employer asset-backed pension contributions, page 30).

Draft clauses inserting a new Part 7A to the Income Tax (Earnings and Pensions) Act 2003 and targeting the use of trusts and other arrangements to avoid, defer or reduce tax liabilities, were included in the draft Finance Bill 2011. The legislation will have a limited impact on pensions affecting only the use of employer-financed retirement benefits scheme to circumvent the impending restrictions on pensions tax relief, see Legal update, Finance Bill 2011: pensions provisions: Anti-avoidance: disguised remuneration. Following this, HMRC published FAQs to address common questions that they had received on the operation of the draft legislation.

The Budget confirms that legislation will be introduced in the Finance Bill 2011 targeting third party arrangements aimed at avoiding restrictions on pensions tax relief but the impact will be designed to limit the impact on employers and individuals where it is possible to identify arrangements that cannot be used for tax avoidance purposes. The changes made include an exclusion to protect legacy pension savings within these arrangements. The new Part 7A will not apply to payments chargeable to tax as pension income, (Overview, para 2.21: Disguised Remuneration, page 16 and HMRC Tax Information and Impact Note: Disguised Remuneration).

For more information see Legal update, 2011 Budget: HMRC confirms Part 7A (disguised remuneration) draft legislation to be amended.

Several changes which had been previously announced were also confirmed in the Budget. These include:

The Budget also confirms the government’s intention to remove certain unintended tax charges that might arise in relation to the National Employment Savings Trust, and prevent other "unintended pensions tax consequences that might arise" due to the interaction of existing tax rules with the introduction of automatic enrolment duties from 2012 (paragraph 2.53, Budget report). Several provisions were provided in the draft Finance Bill, following proposals in the March 2010 Budget. For more information on the draft clauses, see Practice note, Finance Bill 2011: pensions provisions.

Many of the pensions points in the Budget report reiterate changes that were known to be in the pipeline, and much of what is new would benefit from further information either in the form of promised consultation papers or by amendments to existing proposals. Nevertheless, of the new announcements, several are likely to be well-received. The disguised remuneration changes will hopefully give some clarification on areas of uncertainty that the draft clauses in the Finance Bill 2011 and the HMRC FAQs had raised. Likewise, the certainty that there will not be a protracted consideration on which of the Hutton report proposals will be taken forward will be welcome, if not universally popular. The impact of some of the changes is less than transparent, in particular the effect of the change in the discount rate on public-sector employer contributions and the prospect of the end of DB contracting-out, which might add a further disincentive to employers considering the future of their DB schemes.

HM Treasury: Budget 2011 (March 2011).

HMRC and HM Treasury: Overview of Tax legislation and rates (23 March 2011).

HMRC: Tax Information and Impact Note, Disguised remuneration (23 March 2011).