The Government says people who pass the personal allowance on their state pension alone will not pay income tax – but it is yet to give details
Around one million more pensioners are set to be pulled into the income tax net by the end of the decade, updated forecasts from the Government showed this week.
Experts are now warning that the Government must think carefully about how to protect certain pensioners on low incomes from paying tax or risk creating unfairness.
Projections from the Office for Budget Responsibility (OBR), published following Rachel Reeves’s Spring Statement, suggest that around 600,000 more pensioners than previously expected will pay income tax by 2026-27, reaching one million by 2030-31.
The rise is largely due to the combination of frozen income tax thresholds and the “triple lock”, which increases the state pension each year by the highest of inflation, wage growth or 2.5 per cent.
In last year’s Budget, Labour confirmed that income tax thresholds would remain frozen until April 2031 but the state pension continues to rise under the triple lock.
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As a result, the full new state pension is projected to exceed the £12,570 personal allowance – the amount you can earn before paying tax – by 2027. In theory, that would mean someone receiving only the state pension could become liable for income tax for the first time.
The Government reiterated in its Spring Statement that pensioners whose sole income is the state pension will not pay tax on it during this Parliament.
However, it has yet to explain how this will be implemented in practice, having previously said further details will be published later this year.
Although around one million additional pensioners are expected to be brought into the tax system, the Government said many will pay only small amounts whilst others won’t have to pay at all. The OBR estimates the measure will raise just £100m a year by 2030.
We look at who can be exempted from paying and how it will work.
How state pension income could be exempt from tax?
The Government has indicated that individuals whose only income is the state pension will not need to pay any income tax on it during this Parliament.
But experts say there are still significant questions that remain about how this will work in practice and how the Government will ensure it is fair on other pensioners and working people.
Rachel Vahey, head of public policy at AJ Bell, said: “We don’t know exactly how the Government is going to tackle this, but it has suggested anyone just taking the state pension won’t have to do a self-assessment or simple assessment and won’t be taxed.
“That’s all the information we have at this point, but the Government has suggested it will come back with more detail later this year. In doing that, they will have to consider what the most fair solution really is.
“There are already people who earn over the personal allowance just through state pension income because they get additional bits on top, such as through state earnings-related pension scheme (Serps), and they are currently taxed and I imagine will carry on being taxed, which seems unfair,” she said.
Vahey suggested there are several steps the Government could take.
“Instead of just excluding people solely getting state pension income, the Government could introduce a cliff edge for all pension income, or they could look at a phased tax approach instead for greater fairness.
“Another solution would be to bring in a separate, higher personal allowance for pensioners. But that feels like a difficult solution and an unfair one in the eyes of working people.
“Whatever is introduced could see some really unfair situations transpire. For example, if the Government just exempts those solely earning state pension, someone earning the exact same income but through workplace pensions would get taxed, which is clearly unfair.
“The Government needs to think hard about how to take this forward.”
Steve Webb, partner at consultancy LCP, said the Government needs to consider whether to exempt people who are already being taxed on their state pension income because it is over the personal allowance.
You may get a higher amount if you receive a larger additional state pension through the old system – for people who reached state pension age before April 2016 – or if you defer taking your state pension for several years.
“The Government has a clear presentation problem when the new state pension goes above the tax threshold in 2027, but millions of pensioners [on the old state pension] already get state pensions above the tax threshold and nothing has so far been done for them,” Webb said.
“So there is a real risk that pensioners on the new [state pension] system will be more favourably treated. It will be incredibly difficult for the Treasury to come up with something that is workable and fair.”
David Brooks, head of policy at consultancy Broadstone, said that ultimately, exempting any pension income from being taxed risks looking unfair to younger generations.
“While we are still waiting for clarity on how the Treasury intends to exempt those whose sole income is the state pension, the updated modelling underlines the impact of the triple lock pushing the state pension above the frozen personal allowance,” he said.
“This comes at a time of heightened scrutiny around intergenerational fairness, with student loans bursting into the political spotlight while the future of the triple lock remains a hotly debated issue. Although the fiscal gains for the Treasury may be relatively modest, the optics are significant.”
