Fresh analysis suggests the government’s proposed £2,000 cap on National Insurance relief for pension contributions could disproportionately affect middle-income workers, despite being framed as a measure targeting high earners.
According to research from Bishop Fleming, the structure of the UK’s National Insurance system creates what has been described as a “middle-income trap”, where workers earning between £35,000 and £50,270 face significantly higher effective tax rates on pension contributions above the cap than those on much higher salaries.
Tax specialists at the firm highlight that employees in this middle-income bracket would incur an 8 per cent National Insurance charge on contributions exceeding £2,000, compared with just 2 per cent for those earning above £125,000. The result, they argue, is that professions such as nurses, teachers and mid-level managers could face a far steeper penalty on additional retirement savings than top earners.
The analysis also points to wider consequences for salary sacrifice schemes, which have long been used by employers to boost pension contributions by sharing their National Insurance savings with staff.
Under the proposed changes, employers would face a 15 per cent National Insurance charge on contributions above the cap, significantly reducing the financial incentive to offer these “top-up” contributions. Industry experts warn that many businesses may scale back or remove these benefits altogether.
Combined with the employee charge, this creates what has been described as a “23 per cent efficiency cliff” for affected workers, effectively eroding the advantages of saving more into pensions through salary sacrifice.
While the government has indicated that a majority of employees will remain unaffected because their contributions fall below the £2,000 threshold, the analysis suggests the impact could be more widespread.
Data from the Office for Budget Responsibility indicates that a significant portion of the additional cost faced by employers is likely to be passed on to workers through lower wage growth or reduced benefits. This means even those below the cap could feel the effects indirectly, through smaller pay rises or the loss of pension enhancements.
The proposed changes are also expected to add to cost pressures facing businesses, particularly small and medium-sized enterprises.
Firms are already adjusting to wider employment reforms and rising labour costs, and the introduction of additional pension-related charges could force difficult decisions around pay, hiring and benefits.
For some employers, the choice may come down to reducing pension contributions or limiting wage increases in order to absorb the additional costs.
Experts warn that weakening incentives for pension saving could have longer-term consequences for retirement outcomes, particularly for middle-income workers who are already under pressure from rising living costs.
By reducing the attractiveness of salary sacrifice schemes and increasing the cost of saving, the reforms risk discouraging contributions at a time when policymakers have been encouraging individuals to build greater financial resilience for retirement.
The proposed National Insurance cap is likely to remain a point of contention as details are debated and refined.
While the policy aims to rebalance tax relief and generate additional revenue, critics argue that its design could lead to unintended consequences, shifting the burden onto middle earners and reducing incentives to save.
As businesses and employees begin to assess the potential impact, the focus will turn to whether adjustments are made to address these concerns, or whether the changes proceed in their current form with far-reaching implications for the UK’s pension landscape.
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NI pension cap risks hitting middle earners hardest, analysis warns