pension tax allowance, USA News (London): Pensioners on the lowest incomes won’t have to pay any income tax on their state pension, Chancellor John Healey has announced at the Budget. The annual new state pension is expected to increase to £13,036 next year – a 3.9 per cent rise in line with earnings under the “triple lock” promise. This would take the new state pension above the £12,570 personal tax-free allowance, leaving the prospect of the poorest pensioners being dragged into paying tax.
However, Healey has announced that the tax-free allowance for low-income pensioners will rise to new state pension level. So those relying solely on the state pension won’t have to pay any tax. “For pensioners, I’m delivering the new pension tax allowance, so that pensioners with income up to the value of the full new state pension will not pay income tax in this parliament,” said Healey.
Who will save money?
The move is expected to cost taxpayers £200m a year by 2030. The tax-free allowance is expected to rise in line with state pension rises for the rest of this parliament. The move will save those living on the state pension £770 by 2031, according to Standard Life Centre for the Future of Retirement. However, millions of people with private pension pots will continue to have to pay income tax.
Who will have to pay?
An increasing number of pensioners have been dragged into tax bills since the personal allowance was frozen in 2021. Around 9.6 million pensioners are paying income tax on their pension in 2026-27, according to HMRC. It is an increase of more than three million people since the allowance was frozen.
Baroness Ros Altmann, the former Conservative pensions minister, warned of a “two-tier” system unfair to older people with only very small private pension pots who may be struggling financially. Pensioners with very small private incomes “will pay tax while those on only the new state pension will be exempt”, she told The i Paper.
Pensioners with small private pots could be worse off
Former Liberal Democrat pensions minister Steve Webb said a pensioner with even £1 private income over the new state pension looked set to miss out on the tax relief. There could be a growing “cliff edge” problem where pensioners with very small private income end up worse off than those relying solely on the state pension, said Webb, a partner at financial services firm Lane Clarke & Peacock (LCP). Webb warned that Healey’s policy could be hard to “switch off” if there is pressure to raise the tax-free allowance in line with state pension every year.
Tom Selby, director of public policy at AJ Bell, said there was a danger of creating “odd incentives and obvious unfairness in the tax system”. “If the proposal means people who only have state pension income benefit while those who have saved privately don’t, those who have saved could understandably argue their diligent behaviour has effectively been punished,” said Selby.
End of the triple lock
It comes after Andy Burnham announced plans to reform the “triple lock”, a pension increase policy first introduced in 2012. Protected by all parties over the past decade, it guarantees the state pension rises by whichever is highest of inflation, average wage growth or 2.5 per cent. The PM said it would be kept until the end of this Parliament. But he had pledged to put changes aimed at having less generous annual increases to voters ahead of the next general election.
Savings would fund a new National Care Service, said Burnham. He argued that it makes no sense to preserve the currently generous lock while so many pensioners face huge care costs. The Government has not yet set out how much pensioners could lose when the triple lock is scrapped.
Last week, work and pensions minister Torsten Bell was asked to calculate how much less pensioners could receive each year between 2030 and 2040 compared with keeping the existing system, but he did not give any figures. The Government estimates the change could save £15bn a year by 2039-40, rising to £50bn by 2049-50 in cash terms. In today’s prices, that falls to £11bn and £30bn.
