Scotland's pensions industry could face significant complications and cost burdens from a local income tax, a leading insurer has said.

Edinburgh-based Aegon UK says the Scottish government's consultation on the issue has given no clue as to how tax reliefs, critical to pensions administration, would be affected by dual taxation rates in the UK.

"This is among the issues that needs to be debated," said Aegon's head of busi- ness regulation Steven Cameron. "The pensions system is such that individuals who contribute to pensions receive tax relief at their highest marginal rate on the way in, and when they start drawing a pension are taxed at their highest marginal rate on the way out."

A higher basic rate of tax in Scotland could mean pensioners paying 23% tax on pensions for which only 20% tax relief on the contributions had been granted.

"Alternatively, if the government does plan to tax pension income at 23%, it seems only fair that they have 23% tax relief on the way in," Cameron said.

"This is about fairness for individuals saving for retirement, at a time when the government and everyone else involved has agreed that people need to be saving more for retirement and taking more responsibility. The last thing we want to see is anything that discourages saving or makes it less attractive."

The warning echoes the "tartan tax" debate of a decade ago when the Association of British Insurers attacked a separate tax rate as "not in the best interests of the Scottish people", while the Confederation of British Industry claimed pension industry costs would be "huge" and could top £150m in the first year.

Cameron added that the theoretical launch date for a local tax of 2011 would be a year before the launch in 2012 of personal accounts, which would impose another layer of pensions administration on employers and the industry.

For those contributions, pension companies would have to reclaim basic rate tax relief from HM Revenue & Customs. "Providers would need to know how much to claim back and that would depend on whether the individual was subject to Scottish local income tax. There is an issue about making sure we have the records."

Cameron said that employers with workplace pension schemes currently deduct contributions from earnings after national insurance but before income tax. "Again depending on whether it is 20% or 23% that might involve different calculations for the employer. If the employer is based in Scotland with some workers in England, or vice versa, they would have to be able to do things differently."

He added: "All financial services companies have pension customers north and south of the border."

John Lawson, pension policy head at Standard Life, commented that he believed the local income tax would be "packaged as a separate tax charge" rather than a higher tax rate.

"You would not be able to claim more tax relief (on pension contributions) 23% would muck up the 40% band as well, because tax reclaims for higher rate relief are based on the difference between basic and higher."

Lawson added: "The whole tax system is based around basic rate tax, they would probably bring it in on a National Insurance-style basis as a separate stand-alone tax.

"Presentationally it might be shown as a 23p tax but under the bonnet it would be different."

Scottish Financial Enterprise commented that it wanted to see "further analysis of the potential impacts of a local income tax on pensions policyholders".

It added: "Many of our member companies employ people throughout the UK. Applying the PAYE system to different taxation structures in different areas seems likely to generate additional administrative burdens for com- panies operating in and outwith Scotland and this could, in turn, impact on their overall competitiveness.

"We also have some concerns that the administration of a local income tax at both local and devolved government level could be a larger task than the administration of a property tax, since the former is based on assessing the circumstances of individuals and the latter, broadly speaking, on assessing those of properties."

David Lonsdale at CBI Scotland said: "CBI Scotland members have voiced very strong reservations about the proposed Local Income Tax. Businesses are particularly worried about the costly extra administrative burden LIT would place on employers, who for the first time would have to calculate and assess each individual local tax liability, deduct this amount, and then remit it to the relevant collection agency."

He added: "There is genuine concern about the paucity of information about the scope of LIT, as well as the earnings definitions it might apply to. This needs to be rectified, and is something we raised in our submission to the devolved government's consultation exercise.

"For example, would LIT apply to salary net or gross of pension contributions, charitable contributions, benefits in kind and non-cash earnings? Would it similarly apply to severance payments?

"These are but a few of the many outstanding questions about LIT and its impact on employers, the economy, and the public finances."