Pensioners could be forced to pay income tax on their state pension for the first time as early as next year as new analysis suggests payments may exceed the personal tax allowance by April 2026.
Analysts are issuing a warning about this “stealth tax” on pensioners, which is likely to exacerbate the ongoing cost of living crisis for older households.
Deutsche Bank forecasts suggest annual state pension payments could rise by 5.5 per cent to £12,631 in April 2026. This would push pension payments above the £12,570 tax-free personal allowance.
The personal allowance has been frozen since 2021 and will remain so until April 2028. Low-earning state pensioners would consequently be forced to hand money back to the state through income tax.
Official Office for Budget Responsibility (OBR) forecasts released with the Budget had suggested pension payments wouldn’t breach the personal allowance until April 2027.
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State pensioners could be slapped with a stealth tax next year
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The acceleration creates a stealth tax raid on pensioners. Tax thresholds have been frozen since 2021/22 which has resulted in fiscal drag.
Fiscal drag occurs when tax allowances are frozen over a period of high inflation or wage rises, resulting in Britons being pulled into higher brackets.
Thanks to the triple lock, state pension payments are guaranteed to rise every year by either the rate of inflation, average wages or 2.5 per cent; whichever is highest.
This means more of any pension increase will be taken by the government through taxation. Sarah Coles, head of personal finance at Hargreaves Lansdown, described the situation as a “stealthy squeeze on our wallets”.
“The freeze has already hit taxpayers hard. In 2024/25 there are an estimated 37.4 million income taxpayers, up 4.4 million from when thresholds were frozen in 2021/22,” she said.
There are now 8.5 million taxpayers over state pension age – around a quarter more than before thresholds were frozen.
Deutsche Bank’s analysis reveals average weekly earnings in the three months to July will be 5.5 per cent, which is higher than both projected inflation and the 2.5 per cent minimum.
As long at the triple lock mechanism remains in place, pension payments are likely to rise by this amount next year.
Rob Morgan, analyst at wealth manager Charles Stanley, criticised the situation.
“Something’s got to give. The state pension is a safety net so this seems wholly inappropriate,” he said.
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Pensioners are worried about the cost of living GETTY Coles warned an extension of the current freeze on tax allowances may be considered by the Chancellor to generate more tax revenue.
She added: “A longer freeze on thresholds might appeal to the government, because focusing on thresholds rather than the headline tax rate means it’s not technically a tax rise.
“It also guarantees you won’t be left with less money than today – just that more of any pay rise will be taken by the government.
“Yet it feels like a crafty way to hike how much tax we pay – while still being able to say taxes haven’t risen.”