According to new research, just one in 18 pensioners are set to benefit from the promise Rachel Reeves made in the budget, with no-one on the ‘old’ (pre 2016) state pension system eligible for an increased Personal Allowance.
Former pensions minister Steve Webb said two Government policies were now on course to collide, because according to new analysis from Lane Clark & Peacock (LCP), the ‘help’ will apply to only a fraction of pensioners.
“Two separate policies – triple lock uprating of the state pension and freezing of tax thresholds – will collide next year,” Webb said.
“From 2027 onwards, someone with just the new state pension and no other income will start getting annual tax bills from HMRC.”
Why will pensioners be taxed on their state pension from 2027?
The full new state pension – currently worth £12,548 a year – is expected to exceed the personal allowance from April 2027.
That would mean pensioners relying entirely on the state pension could begin receiving annual tax demands from HMRC for the first time.
Under the triple lock, the state pension continues to rise each year based on inflation, earnings growth or 2.5 per cent – whichever is highest. But, the full new state pension is edging closer to the frozen personal allowance threshold, meaning pensioners are gradually being pulled into the tax system.
When this was flagged, the Government announced plans to stop some pensioners having to pay those small tax bills through a special exemption.
But LCP’s analysis suggests the vast majority of pensioners will not benefit.
Researchers estimate only around one in 18 pensioners are likely to qualify for the concession.
Shockingly, experts say no pensioner who retired before 2016 under the old state pension system will benefit at all.
Webb described the policy as “deeply flawed”.
“It discriminates against those on the old state pension system, even if they have identical income to someone on the new system,” he said.
Under the plans, pensioners will only qualify if they are solely dependent on the state pension and receive no other taxable income.
That means even tiny amounts of additional income – including money from a small workplace pension – could disqualify someone completely.
LCP warned this creates a sharp “cliff edge” for older people.
Someone with no additional income could pay no tax at all, while another pensioner with just £1 of extra taxable income could lose the exemption entirely and face a growing tax bill.
According to the report, those bills could rise from around £88 in 2027/28 to more than £220 a year by 2029/30.
Experts also warned that people automatically enrolled into workplace pensions during their careers could unknowingly trigger the problem later in retirement.
“If someone is enrolled into a workplace pension and builds up a small pension pot which they cash out in full, they will have 25% tax free but pay tax on the other 75%,” the report said.
“Accessing a small pension pot in full could cost them hundreds of pounds in extra tax by 2029/30.”
Webb warned the policy could become increasingly expensive and politically difficult to reverse in future years.
“It is clearly a temporary sticking plaster solution for a problem that will have to be addressed at some point,” he said.
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Meanwhile, Alasdair Mayes, partner and head of pensions tax at LCP warned the proposals were making the tax system more complicated.
“This is another example of a seemingly well-intentioned policy announcement adding complexity and unfairness in the tax system,” he said.
“A simple and transparent tax system would be a benefit to all.”
