Steve Webb says tax-free lump sum ‘could be on the brink of extinction without anyone noticing’

A former adviser to George Osborne has said the chancellor is likely to mount a £4bn raid on pension savings by scrapping tax-free allowances on lump sums in a bid to save more cash for the Treasury.

Steve Webb, himself a former pensions minister, says hundreds of thousands of people would suffer from Osborne’s “tax bombshell” that some fear could come as soon as the budget next month.

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Webb believes Osborne’s latest review of retirement savings is leading him towards scrapping all tax relief on pensions in favour of replacing it with an Isa-type system with tax paid in advance.

“Under the current system you can get tax relief on your pensions contributions, enjoy tax-free growth in your pension fund and then take a quarter out tax free – a hugely tax-advantaged way of saving,” wrote Webb in the Sunday Times (paywall). “But with a pensions Isa, this tax break quietly disappears. Since all of the money that goes into a pensions Isa has already been taxed, there is no equivalent of a tax-free lump sum.

“Given that the tax-free lump sum costs the chancellor around £4bn in lost revenue, it is easy to see why he might like to get rid of it. It is remarkable to think that one of the most popular and best understood parts of the tax system – the tax-free lump sum – could be on the brink of extinction without anyone noticing.”

At the moment people can take a quarter of their pension pots in a single lump sum without paying tax once they hit the age of 55.

Webb, who now works for private pensions firm Royal London, is not the only person who has raised concerns about tax breaks being removed following Osborne’s promise to review retirement payments last year.