The full new State Pension has risen by 8.5% to £221.20 a week or £11,502.40 a year for the 2024/25 tax year. Those receiving the basic State Pension and who reached the State Pension age before 6 April 2016, will see theirs increase by almost £700 - to £8,814 a year. The rise is as a result of the government’s triple lock promise and means more income for those who are eligible. Currently, you’re eligible for the State Pension in the UK from age 66, although this is rising to 67 from 2028.
The combination of rising pension income and frozen tax thresholds means you could end up with a higher tax bill. So it’s worth thinking about what the rising State Pension means for your finances.
Tax considerations
The State Pension increasing to 8.5% will bring a welcome income boost to many retirees. But it’s worth knowing that it may also boost your income tax bill, and could mean you’ll need to pay income tax for the first time since stopping work. This is because the personal allowance - the amount you can earn before paying tax - has been frozen at £12,570 since 2022 and will remain frozen until 2028.
Why does the personal allowance matter? Well, it means that those who receive the new full State Pension income of £11,502.40 will have most of their personal allowance taken up. This means that any income from other private pensions or investments may therefore face higher tax.
Reducing your tax bill
One way to reduce your tax bill in retirement is to draw an income from an Individual Savings Account (ISA). Money saved or withdrawn from ISAs is tax-free and free from capital gains tax (CGT). But of course, that assumes you have a substantial amount of savings in ISAs already.
Remember that the first 25% of pension withdrawals are tax-free but this doesn’t have to be taken as one lump sum. You could choose to spread your tax-free withdrawals over several years to potentially minimise your tax bill. It’s worth checking if your pension provider offers this.
If you’ve reached retirement age, currently 55 (rising to 57 from 2028), and have surplus savings, you may even want to contribute some back into a pension. This might sound odd, but you’ll benefit from tax relief if you’re under the age of 75. Although once you’ve begun drawing down from your pension, your annual allowance will decrease and you’ll be subjected to the money purchase annual allowance (MPAA). The MPAA restricts your pension contributions eligible for tax relief. It’s triggered once you’ve started drawing an income from your defined contribution pension. For the tax year 2024/25, the MPAA is set at £10,000.
Paying into a pension may allow you to shelter more of your savings from tax. Research from PensionBee found 67% of those who had increased their pension contributions had done so because of a salary increase. This suggests an increased awareness of tax planning from pension savers alongside retirement planning. The other benefit of having savings held in a pension is that pensions aren’t counted as part of a person’s estate. This means that when you pass away, your beneficiaries can access your retirement savings without having to pay inheritance tax (IHT).
How much you can pay into a pension after ‘retiring’ depends on whether you’re still earning money through work. Plus whether you’ve already taken money from your pension. If you no longer work at all, you can pay up to £2,880 into a pension each tax year and the government will top this up to £3,600 through the additional tax relief. Most basic rate taxpayers get a 25% tax top up, so if you paid £100 into your pension, HMRC would effectively add another £25, bringing the total contribution up to £125. Higher and additional rate taxpayers can claim further tax relief respectively through their Self-Assessment tax returns. PensionBee’s Pension Tax Relief Calculator shows how much could be added to your pension pot as a result of tax relief.
The future of the triple lock
If the triple lock commitment stays, the State Pension should rise each year to stay on top of inflation. The State Pension triple lock means the State Pension will rise in line with either:
- inflation;
- the increase in average earnings; or
- 2.5% - whichever is highest.
It’s a costly policy for taxpayers and there’s often discussion over its long-term viability. Yet as the next general election approaches, both the Conservative and Labour parties appear committed to keeping the triple lock for the time being.
Don’t want to wait until you’re State Pension Age to retire?
The State Pension age has risen significantly in recent years. It was 60 for women and 65 for men in 2010. It’s now 66 and is rising again to 67 from 2028. Some think the State Pension age will at some point rise to above 70 to remain financially sustainable. If you’re not sure when you’re eligible for the State Pension, check PensionBee’s State Pension Age Calculator.
If you want to retire before the State Pension age, this will require relying on other savings to provide you with an income before the State Pension kicks in. One of the ways you can boost your retirement savings is to pay into a private pension, as you’ll benefit from ‘free money’ from HMRC in the form of tax relief.
You may be taxed on withdrawals above the annual personal allowance of £12,570, but the first 25% will be tax-free. You can currently withdraw money from private or workplace pensions from the age of 55 but this is rising to 57 in 2028. As you get closer to this age, you may want to consider maxing out your pension contributions as much as possible. The earlier you begin saving for your pension, the longer you have to benefit from compound interest.
For the current tax year 2024/25, there’s an annual allowance that can be paid into a pension each year which is up to £60,000 or 100% of your annual income (whichever is lower). But you can use any unused allowance from the previous three tax years using the carry forward rule.
Elizabeth Anderson is a Personal Finance Journalist and Editor (Daily Mail, Times Money, Metro and i paper).
Risk warning
As always with investments, your capital is at risk. The value of your investment can go down as well as up, and you may get back less than you invest. This information should not be regarded as financial advice.
