For many, retirement is supposed to be a time of financial security – a reward after decades of hard work. But according to new research, by 2032, around 10 million pensioners – three-quarters of all retirees – will be paying income tax. What impact will Pensioners Income Tax have?

This sharp rise is due to a combination of rising state pensions and a frozen personal allowance. And unless the government changes course, more and more pensioners will find themselves paying tax on their retirement income.

Why Are More Pensioners Paying Tax?

The biggest factor is fiscal drag. This is when tax thresholds stay the same while wages and pensions increase, pulling more people into tax brackets without the government officially raising taxes.

The personal allowance (the amount you can earn before paying tax) has been stuck at £12,570 since 2021, with no increases planned until at least 2028. Meanwhile, state pensions have risen thanks to the triple lock – a policy guaranteeing that the state pension goes up by whichever is highest:

• Inflation
• Average earnings growth
• 2.5%

This has meant pensioners have seen significant income rises, but because the tax threshold has stayed the same, more of them are being pulled into the tax system.

• In 2022-23, 61% of retirees paid income tax, according to HMRC.
• By 2027, the full new state pension will exceed the personal allowance, meaning it will become taxable for the first time.
• By 2032, 76% of pensioners are expected to pay tax on their retirement income.

What Does This Mean for Your Retirement?

Many pensioners have structured their retirement plans under the assumption that their state pension would be tax-free or at least under the tax threshold. But as the number of retirees grows – with an extra two million expected by the early 2030s – this is changing fast.

Sir Steve Webb, former pensions minister, puts it bluntly:

“The proportion of pensioners dragged into the tax net has risen sharply in recent years. Although future pension rises are likely to be smaller, if thresholds continue to be frozen, more and more pensioners will end up paying tax.”

For those relying only on the state pension, this might not be a huge financial shock. But for those with workplace pensions, private savings, or other income sources, it means that more of their retirement funds will be taxed.

Can You Reduce Your Tax Bill in Retirement?

While tax is unavoidable, there are steps you can take to minimise how much you pay. Careful financial planning can help keep your income below tax thresholds or reduce how much of your pension is exposed to tax.

1. Make Use of ISAs

Unlike pensions, ISA withdrawals are tax-free. If you have savings in an ISA, drawing from that rather than a pension can help keep your taxable income lower.

2. Take Advantage of Pension Allowances

• You can take 25% of your pension tax-free when you start withdrawing.
• Spreading withdrawals over multiple years rather than taking a large lump sum in one go can help stay within lower tax bands.

3. Consider Spousal Allowances

If you’re married or in a civil partnership, using your partner’s personal allowance and tax-free pension options can help spread income and reduce the overall tax impact.

4. Seek Financial Advice

Everyone’s retirement income is different, so speaking to a financial adviser can help you put a strategy in place to make the most of tax-efficient savings, pensions, and investments.

Planning Ahead for Retirement

With tax thresholds frozen and the state pension continuing to rise, more pensioners than ever will be paying income tax. The key to avoiding unnecessary tax bills is early planning – looking at pension withdrawals, tax-free allowances, and investment options before you retire.

If you’re thinking about how this might affect you, it’s worth getting professional financial advice to ensure you keep as much of your retirement income as possible.