State pensioners could soon be hit with a new, ‘odd’ tax bill which could cause administrative issues for the Government, an expert has warned.
Chancellor Rachel Reeves will present her Spring Statement this week (March 26) with many wondering if there could be changes to tax allowances, with the personal allowance for income tax currently frozen at £12,570 a year until 2028.
Labour may have little incentive to bring forward the unfreezing of the allowance so it can rise with inflation again as this will reduce Government revenues, but keeping it at its current level means the state pension will soon becoming subject to the levy, thanks to the triple lock policy.
This ensures the state pension rises each April in line with the highest of 2.5%, inflation or the rise in average earnings.
Rob Morgan, chief investment analyst at Charles Stanley, warned: “With the latest figures for wages at around 5% it is highly likely this element will be the relevant one for next April, and with the current level of a full new state pension at around £11,975 for the 2025/26 tax year a rise at that order will take it beyond the £12,570 income tax personal allowance.
“That would mean a pensioner relying on the standard state pension alone for their retirement income having to pay tax on a small part of it.”
The full new state pension is currently £221.20 a week, or £11,502.40 a year, and with payment rates increasing 4.1% in April, this will rise to £230.25 a week, or £11,973 a year.
If the earnings metric is the key figure and delivers a 5% increase next April, this would mean the full new state pension would go up to £241.75 a week, or £12,571 a year, just £1 over the the personal allowance.
Mr Morgan warned of the issues this could cause for ministers. He said: “As well as being administratively messy in terms of dragging an unprecedented number of low-income pensioners into paying tax, it seems odd that this level of income should be taxed at all.
“According to the Pension and Lifetime Savings Association, a single person in retirement needs £14,400 a year for a ‘minimum’ standard of living, a figure which is after tax and assumes no mortgage or rent costs.
“This figure is significantly below where the income tax personal allowance would be if it had been increased with inflation, clearly demonstrating how low earners have suffered from fiscal drag too.”
Had the personal allowance gone up in line with inflation, it would now be more than £15,000, meaning basic rate taxpayers would pay £600 less tax each year.
Labour has pledged to keep the triple lock in place for the duration of this Parliament. Looking ahead, Mr Morgan said: “Having committed to the triple lock, at least for now, one option would be for the Chancellor to increase the personal allowance.
“Indeed, during last year’s election campaign the Conservative manifesto contained a promise to do this for people of pension age.
“This would give preferential treatment to that cohort, so an uplift across the board would be more equitable, but it stands at odds with a Chancellor attempting to increase tax revenue.”
In their General Election bid, the Conservatives set out plans for a ‘triple lock plus’, with the triple lock metric to also be applied to increasing the personal allowance each year, meaning the state pension would never be subject to income tax.
Mr Morgan warned the Spring Statement could have more significant changes than it usually does, given the current state of the economy.
He said: “With a backdrop of weak growth and high borrowing costs, not to mention additional strain from renewed defence spending, this inaugural Spring Statement could be more than a routine economic update.
“It’s anticipated that high borrowing costs and low growth have already wiped out the Government’s ‘fiscal headroom’. Several billion pounds in spending cuts are therefore expected to be announced, but with the OBR forecasts potentially painting a deteriorating picture it could mean some future measures aimed at increasing tax revenue are flagged too.”
