Plan to exempt state pensioners from tax will help just 700,000

A plan to exempt some retirees from paying income tax will help just 700,000 out of 13.2 million state pensioners, according to analysis.

Next April, the full rate of the new state pension will exceed the threshold at which people pay income tax, which is frozen at £12,570 until 2030.

That means that those who get the new state pension – currently £12,548 – would start to get an annual tax bill from HMRC, even if they don’t have any extra income.

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The exact tax bill would depend on how much the state pension goes up by – it rises each year by the highest of earnings growth, inflation or 2.5 per cent under the triple lock – but current projections suggest bills would be around £88 next year, around £153 the following and, in 2029-30, around £220.

Those affected would typically need to sort their tax bill via HMRC’s simple assessment process, though the Government has said there will be a special scheme devised to prevent this.

But new figures calculated by consultancy LCP show that the vast majority of pensioners will see no benefit from the plan.

Calculations by ex-pensions minister Sir Steve Webb, now a consultant at LCP, show that none of the 7.7 million pensioners on the old state pension – for those who reached state pension age pre-2016 – will qualify.

This is because the current rate of the basic state pension is £9,614 per year and will be nowhere near the tax threshold of £12,570 by 2030.

Though the majority of people on the old system get additional state pension income, and so may face income tax, they will automatically be barred from the proposed plan because they receive increments on top of the basic pension – and the Government says these people are not in the scope of its new scheme.

Only 700,000 of the 5.5 million on the new state pension – for those who retired since 2016 – will be helped.

Of those on the new state pension, some are abroad, so won’t pay UK income tax, some get an extra state pension known as a protected payment – disbarring them – some don’t get the full pension and so won’t go over the threshold, and around 1.8 million have extra private income.

Alasdair Mayes, partner and head of pensions tax at LCP, said: “This is another example of a seemingly well-intentioned policy announcement adding complexity and unfairness in the tax system. A simple and transparent tax system would be a benefit to all.”

LCP says it thinks there are several parts of the scheme it believes are unfair.

It says, for example, that it creates a cliff edge for those with tiny amounts of private income, as someone who gets £1 from a private pension will have to pay income tax not just on the £1, but also the income tax on their state pension – a further £88.

It also says there is differential treatment between those on the old and new state pensions, as someone who has a new state pension above the tax threshold in 2027-28 will have their tax bill wiped, but someone on the old system with a basic state pension, and an additional state pension of exactly the same value will have to pay tax.

Sir Steve added: “It is clearly a temporary sticking plaster solution for a problem that will have to be addressed at some point.

“A general write-off when people have small amounts of tax would probably be a cleaner solution, though a more fundamental review of pension and tax allowance levels is clearly needed.”

Not only will it create an issue for pensioners but also the Government, as the policy will get more and more expensive – a bit like the triple lock.

Alternative ways to tackle the problem could be an across-the-board increase in pensioner tax allowances, although LCP admit this would get more expensive every year and the bill could run into billions so seems unlikely.

Another would be a general write-off of small income tax bills which would be more targeted and would treat pensioners on the old and new system the same. However, there is still the risk of creating unwelcome cliff edges and unfairness.

A Treasury spokesperson said: “Anyone whose only income is the full new or basic state pension without any increments will not pay income tax and we are committed to that over this Parliament.

“By keeping the triple lock, 12 million pensioners will see their income rise by up to £470 this year, and they continue to benefit from the highest personal allowance in the G7.”

Plan to exempt state pensioners from tax will help just 700,000

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