State Pension = Extra Work

For decades the state pension was allowed to fall in real terms to such an extent that the UK had a real problem with pensioner poverty. 

Now as we head into 2025, the basic state pension is due to rise to £11,963 which is a huge increase. So much so that 340,000 pensioners will now have incomes so high that they will have to file a tax return for the first time.  This is due to the frozen personal income allowance of £12,570, so it will only take other income (including cash interest) of circa £600 pa to push these pensioners into paying income tax. This is not much more than £10,000 of savings at current interest rates and most interest is paid gross and so a tax return will be required. 

The state pension is paid gross and so all of these pensioners will need to register with HMRC for the first time. Most won’t have interacted with this system before and may well struggle with the online form filling. 

Some won’t even be aware of what they are required to do. 

It is unlikely that standard accountants’ fees will be appropriate for such a high volume of low tax bills. There are low cost online services available (we use one ourselves for a handful of clients) but that adds another level of cost and another website to liaise with. The tax profession will need to be more proactive at communicating the problem and inventing solutions. 

So how did we get here?

Labour in 1997 started to address pension poverty with the introduction of pension credit to top-up pensioners on lower incomes. 

The coalition government in 2010 introduced the triple lock on pensions. Steve Webb was the Lib Dem pension minster at the time. 

He was a pension minster who held the post for the whole term (until he lost his seat in the near wipe out of Lib Dems in 2015). Steve was genuinely knowledgeable in the pension area and has gone on to have a good career in the private sector working for pension companies. 

The Triple lock was a poor policy because it tried to tackle low state pension incomes gradually rather than increasing them immediately. To achieve the gradual increase they linked the annual state pension increase to the higher of CPI inflation, wage inflation and 2.5%.

This was a cowardly policy because it both kicked the can down the road and guaranteed a future government would have to choose between bankrupting the country’s finances or making the politically unpopular move of stopped the triple lock. 

Investors and adviser know the power of compounding but it turns out that politicians are less clear on it. If you compound the income increase every year at the highest of three rates, eventually the state pension will increase completely out of line with wages, the National Insurance contributions pensioners made in the past and left unchecked will eventually surpass even the average income in the UK.

The policy was innumerate.

The State Pension is much maligned by people but it provides an average 60% replacement rate compared to pre-retired earnings. So it makes up a good percentage of most retirees’ income. 

It is a double whammy for the UK public finances because at the same time that the state pension is increasing, so are the numbers of people being paid it. In 2020 12.1m people were claiming the State Pension but this is projected to rise by 2045 to 15.1m due to a bulging generation reaching State Pension age and existing pensioners living longer. Crucially there are roughly 284 pensioners for every thousand workers currently and this is due to increase to a ratio of 337/1,000.

The State Pension now costs us 4.8% of GDP but this will rise to 6.2% of GDP. Currently the State Pension costs circa £105bn per annum of a total government spend of £1tn. The state currently spends £15k per annum on each child, £10k on each worker and £20k on each retiree.

If you want to listen to a good comparison of our State pension with the French State pension, then it is worth listening to the always excellent Tom McPhail here.

For a deeper understanding of the UK State Pension, it is worth listening to the Institute of Fiscal Studies IFS podcast featuring the excellent Ros Altman here.

We guide families through all these pitfalls throughout Hampshire, Surrey, Berkshire, Sussex, and Kent from our Hook office. We advise many more throughout the UK using the latest technology.