A recent debate in Parliament has raised questions about a possible increase in the tax-free personal allowance limit, as the gap between the state pension and the personal allowance tax threshold continues to shrink.
Conservative MP Sir Ashley Fox asked ministers if they had considered aligning the personal allowance with the full state pension amount. This article explores the implications of this issue and how it could affect pensioners across the UK.
Current State Pension vs. Personal Allowance Tax Threshold
At present, individuals in the UK can earn up to £12,570 annually without paying income tax. With the recent 4.1% increase in the state pension, the full new state pension now stands at £230.25 per week, amounting to £11,973 per year.
This figure is just £600 below the personal allowance tax threshold, prompting concerns about whether the pension may soon be subject to taxation.
The State Pension Increase and its Proximity to the Tax-Free Threshold
The rise in the state pension this month has sparked discussions about its proximity to the personal allowance tax threshold.
If the personal allowance remains unchanged while the pension continues to rise, pensioners may soon find themselves in a position where they are liable for income tax on their pensions.
Government’s Response to the Question of Taxation
In response to Sir Ashley Fox’s query, Treasury Minister James Murray confirmed that the Personal Allowance would continue to exceed both the basic state pension and the full new state pension in the current tax year. This means that pensioners who rely solely on the new or basic state pension without additional income will not pay income tax.
However, Murray also noted an important policy change, stating that the previous government had frozen the income tax Personal Allowance at £12,570 until April 2028. The current government, he explained, is committed to keeping taxes low while maintaining fiscal responsibility. Consequently, they decided against extending the freeze on personal tax thresholds during their first Budget.
The Conservative’s “Triple Lock Plus” Proposal
As part of their General Election campaign last year, the Conservatives revealed their plans for a ‘triple lock plus’ policy.
This policy would apply the triple lock system (which guarantees that the state pension increases by the highest of 2.5%, inflation, or average earnings growth) to raise the personal allowance for pensioners annually.
The goal is to ensure that the state pension remains below the income tax threshold, offering further protection to pensioners.
Potential Consequences of Taxing State Pensions
While increasing the state pension is generally seen as a positive step, specialists have raised concerns about the unintended consequences of taxing state pensions.
Rebecca Lamb, External Relations Manager at Money Wellness, cautioned that even a small increase in the state pension could push some pensioners over the personal allowance threshold.
This might not only result in paying a small amount of income tax but also disqualify them from receiving Pension Credit, leading to a substantial loss of other forms of financial support.
Risks of Losing Access to Additional Benefits
Pension Credit is crucial for many pensioners, as it serves as a gateway to several other essential benefits. These benefits include:
- Housing Benefit
- Council Tax Reduction
- Free NHS dental and eye care
- The Warm Home Discount
- Cold Weather Payments
- Free TV licences for over-75s
Lamb pointed out that pensioners could lose more than £8,000 a year in support if their pension rises slightly above the tax threshold, thereby forfeiting access to these vital benefits.
The possibility of taxing the state pension due to the shrinking gap between the personal allowance tax threshold and the pension amount has raised significant concerns.
While the triple lock plus policy offers some protection, pensioners could still face potential financial hardship if their pensions rise slightly above the threshold.
Ensuring that the personal allowance aligns with the state pension and protects the most vulnerable pensioners remains a pressing issue for policymakers.
FAQs
Will the state pension be taxed in the future?
As it stands, the full state pension is below the personal allowance tax threshold. However, due to ongoing increases in pension amounts, there is growing concern that pensions may soon be taxed if the personal allowance threshold remains frozen.
What are the risks for pensioners who exceed the personal allowance threshold?
Pensioners whose income surpasses the personal allowance threshold could not only face income tax but also risk losing eligibility for important benefits such as Pension Credit, potentially leading to significant financial losses.
What is the “triple lock” system?
The “triple lock” ensures that state pensions increase each year by the highest of 2.5%, inflation, or average earnings growth. The government’s proposal to apply this system to the personal allowance is aimed at preventing pensions from being taxed.