Plans by the U.K. government to exempt certain pensioners from income tax are facing scrutiny due to a lack of clear details, particularly affecting individuals who have deferred taking their state pension. The government has stated its commitment to ensuring that individuals whose sole income is the full new or basic state pension, without any additional increments, will not be required to pay income tax.
The standard full rate of the state pension is projected to exceed £13,000 annually from next spring, surpassing the current basic rate threshold of £12,570, which is set to remain frozen until 2031. An industry study indicated that the proposed tax waiver, intended as a countermeasure by the Treasury, would only benefit approximately one in eighteen pensioners.
Former Pensions Minister Steve Webb, a partner at LCP which conducted the research, highlighted the difficulty this uncertainty creates for pensioners deciding whether to defer their state pension. "The uncertainty about the proposed 'tax waiver' on state pensions makes it difficult for people deciding now whether or not to defer taking their state pension," Webb stated.
Individuals who put off claiming their state pension, or who do so inadvertently by not claiming it upon qualification, may be disadvantaged. Under current regulations, deferring the state pension results in an additional 5.8% added to payments for each year deferred. Those who reached state pension age before April 2016 benefit from a more substantial increase of 10.4% per year, or can opt for a lump sum with interest.
Webb noted that individuals with any increments on their state pension, including those earned through deferral, appear set to be excluded from the proposed tax waiver. This exclusion could lead to a financial disadvantage, making the act of deferring the state pension less financially appealing. He emphasized the need for immediate clarity on how the policy will function, as individuals are currently being asked to make decisions without complete information.
Many pensioners already pay income tax due to having private work or personal pensions, or substantial additional state pension entitlements like Serps or S2P earned during their working lives. These individuals, along with those who have deferred their state pension, are likely to be ineligible for the proposed tax exemption.
LCP estimates that a pensioner solely reliant on the new state pension, currently amounting to £12,548 annually, could see their tax burden reduced by around £88 in the 2027-28 tax year, increasing to £153 in 2028-29 and £220 in 2029-30 if they qualify for the waiver.
Concerns have been raised by a reader who deferred their pension in the 2020-21 tax year and now receives an additional £11.48 per week, totaling an extra £596.96 annually. This individual fears that the increment will disqualify them from the proposed tax waiver, potentially forcing them to pay tax on their entire pension above the £12,570 threshold. They also pointed out that while their base pension increases with the triple lock, the deferral increment is adjusted based on inflation, suggesting that a non-deferring pensioner could eventually have a higher net take-home pay.
A Treasury spokesperson reiterated the commitment that pensioners whose only income is the full new or basic state pension without increments will not pay income tax. The spokesperson also highlighted that the retention of the triple lock is expected to increase the income for 12 million pensioners by up to £470 this year, noting that they continue to benefit from generous personal allowances.