Putting off the personal allowance vs State Pension problem

The ingredients to determine next April’s increase in the State Pension are now clear and suggest a problem deferred until the 2026 Budget.    

Source: DWP, HMRC 

The basis for increases to the old and new State Pension is the ‘triple lock’, which sets the change in April to be the greater of: 

• Earnings growth for the period May to July in the previous year, 

• Consumer Price Index inflation to September of the previous year, or 

• 2.5%. 

The earnings growth figure, 4.7%, was published in mid-September. While the inflation data will not arrive until 22 October, prices would have to rise by an unlikely 0.9% between August and September for annual inflation to exceed 4.7%. That means State Pensions should rise by 4.7% with the results shown below, unless the Office for National Statistics revises its earnings numbers.  

The new State Pension, which applies to anyone reaching State Pension age after 5 April 2016, will be equal to £12,537 a year from April 2026. The income tax personal allowance is £12,570, as it has been since 2021/22. Given that the minimum State Pension increase is 2.5%, and the personal allowance is not due to increase before 2028/29, that means from April 2027, the new State Pension will exceed the personal allowance and, all other things being equal, attract a small income tax liability.  

In practice, many individuals already receive a total State Pension—including elements like the State Second Pension—that exceeds their personal allowance. However, for the new State Pension on its own to surpass the personal allowance would mark a significant milestone. Politically, this could be sensitive, especially following the Winter Fuel Payment controversy. Compounding the issue, once the State Pension exceeds the personal allowance, it cannot be reversed unless the personal allowance rises faster than price inflation.

There are also some potentially difficult problems for HMRC as the State Pension is paid without PAYE deduction of tax applying. Will HMRC issue simple assessments to collect under £100 of income tax from those who only receive the State Pension? 

An important consideration in retirement planning is that if your State Pension exceeds your personal allowance, any private pension income will be fully subject to tax.

Tax treatment varies according to individual circumstances and is subject to change. The Financial Conduct Authority does not regulate tax advice. 

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