The UK has had a two-tier pension system for years. Chancellor Rachel Reeves just doubled down.
Chancellor Rachel Reeves promised pensioners a tax break most won’t get (Image: Getty)
The Chancellor thought she’d found a neat escape route from the looming state pension income tax fiasco. She hadn’t. Instead, she’s managed to deepen the mess surrounding Britain’s already baffling two-tier pension system. Pensioners are confused today. Many more will be even furious next year, when the latest body blow lands. I’m not sure Reeves even understands what she’s doing here.
The personal allowance income tax threshold was frozen at £12,570 in 2021. Reeves has since extended the freeze until at least 2031. Yet all the time, the new state pension keeps rising under the triple lock. From next April, the full new state pension will exceed the personal allowance and become taxable by default. It’s absurd. DWP will hand over the money with one hand, HMRC will take it back with the other. Every year the slice taken will get bigger. Reeves tried to head off the backlash by making a breezy promise. She pledged that pensioners whose sole income comes from the state pension wouldn’t pay tax on it during this Parliament. Unfortunately, she seems to have forgotten one thing. There are two state pensions, not one.
Her tax pledge sounded simple enough. In reality, she’s slapped a sticking plaster over a growing crack without bothering to check whether the policy actually worked. It doesn’t. Older pensioners will come off much worse under Reeves’s new plan.
The new state pension is paid to around five million pensioners who retired from April 6, 2016. Currently worth £12,547 a year, it’ll rise to at least £12,861 next year (and possibly more). That’s £291 above the frozen personal allowance, which would trigger an instant tax bill of £58.
If the pensioner receives no other income, they won’t have to pay any tax. So Reeves’s promise broadly stands. But the moment they do get extra income, whether from a job, savings or other pensions, they’ll pay tax on everything. Including the state pension. Which is madness.
But the situation is even crazier for 7.7million on the basic state pension. Today, this pays just £9,615 a year, well below the personal allowance. However, most also get additional state pension through Serps or the state second pension (S2P). Those additional payments are already fully taxable today, once above the personal allowance. And they’ll remain so, even under Reeves’s plan.
That’s the sting Reeves either failed to spot or chose not to mention. Older pensioners who breach the £12,570 personal allowance once additional state pension is included will pay income tax. Even if they have no other earnings. This applies even if they get a lower income than somebody on the full new state pension alone.
Reeves claimed pensioners wouldn’t pay tax on the state pension, but the vast majority of older retirees are excluded from the deal. Many already feel robbed by the two-tier system. Now they’ll pay more and more tax. As if that wasn’t enough, another problem has just emerged, that I’ll be writing about in the coming days.
Many pensioners will have taken Reeves’s pledge at face value and breathed a sigh of relief. Why wouldn’t they? She never properly explained the distinction between the two systems and still hasn’t. Perhaps she doesn’t understand it herself. Either way, she’s just punched older state pensioners in the face. Her promises are worthless.