Warning for 1.6million on state pension set to be hit by ‘stealth tax’ – check if you’re affected

MORE than one million claiming a state pension are set to be hit with a stealth tax.

An estimated 1.2 million pensioners will be pushed into paying income tax in 2024-25.

That’s based on analysis by the House of Commons Library.

The personal allowance threshold, which is the rate at which people start paying tax, has been frozen at £12,570 since April 2021.

By 2027-28, 1.6 million additional pensioners will be paying income tax, compared to if the personal allowance had been increased in line with inflation.

The government freezes tax thresholds as a way to raise extra cash without directly increasing taxes.

As wages or income from pensions rises each year, more people are dragged into paying tax, or into higher tax brackets.

The latest Department for Work and Pensions figures show that 12.7 million Britons now receive the state pension.

According to the Institute for Fiscal Studies, 8.5 million people over the age of 65 are now paying income tax, up from roughly 4.9 million in 2010.

Separate analysis from the Resolution Foundation has found that freezing income tax thresholds will leave the average taxpaying pensioner £1,000 worse off by 2027-28, or a collective hit of £8 billion.

Liberal Democrat Treasury spokesperson Sarah Olney branded it a “stealth tax bombshell facing pensioners”.

A Treasury spokesperson said: “After providing hundreds of billions of pounds to protect lives and livelihoods throughout the pandemic and Putin’s energy shock, we had to take some difficult decisions to help pay it back.

They added that the “economy is turning a corner” and that by cutting National Insurance by a third and above inflation increases to personal tax threshold they have “saved the average earner over £1,500”.

Why is this happening and is there anything I can do to avoid it?

High inflation rates mean more people in work are getting pay rises to try and keep pace with rising prices.

However, with income tax bands frozen, it means many are being pushed into the next tax bracket.

It is not just affecting working-age people, pensioners are being high too.

Laura Suter, director of personal finance at AJ Bell, said: “Soaring inflation and wages mean that the State Pension increased by 10.1% in April 2023 and increased by another 8.5% this month, taking the full flat-rate state pension to £11,500 a year.”

However, she added that with the personal allowance having been frozen at £12,570 it means that the state pension is taking up the lion’s share of that tax-free allowance.

This means that from the start of the frozen tax bands in April 2021, 1.2 million more pensioners have been dragged into the income tax net in the past two years alone.

Laura said: “Pensioners looking to reduce their tax bill need to think about how they can maximise their tax-free income.

“For example, any withdrawals made from their ISAs will be free of any tax. so they can use that pot of money to boost their income without impacting their tax bill.”

And ISA is a type of saving account which you can save up to £20,00 a year tax-free.

Laura also suggested that couples can organise their finances so they ensure they are each making use of their tax-free allowances, which might involve moving money or assets between themselves.

We also spoke to Helen Morrisey, head of retirement analysis at Hargreaves Lansdown, who added that pensioners might want to use some of their pension to top up their income.

She said: “Most people can access 25% of their pension as a tax free lump sum so they may decide to use this to top up their income without pushing up their tax bill.”

However, she also warned that pensioners below the personal allowance are going to find it increasingly difficult to avoid paying income tax in the coming years.

The finance expert added: “From next week a full new state pension hits just over £11,500 per year and even relatively modest 3.5% annual increases would see people pushed over the threshold by the time the threshold freeze ends.”

Other ways you can save on tax

Tax-free childcare

Families can claim up to £2,000 a year tax-free to go towards childcare costs, as well as 30 hours free childcare, if you are eligible for both.

To be eligible, both parents must work at least 16 hours a week and earn the ­minimum wage or above.

Visit gov.uk/tax-free-childcare to get started.

Savings allowance

Low earners taking home between £12,570 and £17,570 a year could earn up to £5,000 in interest on their savings without having to pay a penny in tax.

This situation is most likely to apply to pensioners who have a lot of cash in savings but are no longer earning a wage or are reliant on the state pension.

If you earn more than this, you can still make £1,000 in interest tax-free.

Marriage allowance

Couples on a low income who have tied the knot could save £252 a year with the marriage allowance.

The allowance allows one partner to share 10% of their £12,570 tax-free personal allowance with the other to reduce their tax bill, assuming they have it spare.

Claims can be backdated for up to four years, saving a taxpayer £1,260 in total.

You can claim it on the Government website.

Trading allowance

Savvy sellers could earn up to £1,000 a year by flogging their wares or services with the trading allowance.

The allowance could save basic-rate taxpayers up to £200 a year in tax.

Rent out your home or driveway

Anyone with a driveway to spare or going away for a few weeks could earn up to £1,000 tax-free.

You can rent your home on Airbnb while you are on holiday or let out your driveway to commuters for a bit of extra cash, and as long as you earn below the £1,000 threshold, you don’t need to pay a penny in tax.