If you don’t need it immediately after reaching State Pension age, delaying your pension could really pay off in the long run
Today there are roughly 1.3 million people working past State Pension age, compared with less than half a million in the early 2000s. This means that people now need to think about whether claiming their State Pension as soon as they reach this age is the right thing to do. For some, waiting until you’ve stopped working before drawing your State Pension could mean you pay a lot less tax overall, as well as getting a higher level of income from your State Pension when you do eventually claim it.
What happens when you reach State Pension age?
The State Pension isn’t paid automatically as soon as you reach the right age. Instead, you should receive a letter from the Department for Work & Pensions 2-3 months before you reach State Pension age inviting you to make a claim. If you don’t claim, then it won’t be paid and your pension will automatically be deferred until you do.
If you wait longer to claim, when you do eventually take your State Pension it’ll be paid at an enhanced rate. For those who reach State Pension age after 5 April 2016, the enhancement is 5.8% for each year you put off taking your pension.
You can find out more about delaying your State Pension, including how to claim a deferred State Pension, at GOV.UK.
Why should you think about delaying your pension?
But, as well as this higher rate of payment, there’s a bigger reason some people might want to consider when it comes to deferring their State Pension. This relates to the fact that the State Pension is subject to income tax.
If you claim your State Pension while you’re still working, it’ll be added to your wages when your income tax bill is worked out. If your earnings already eat up all of your £12,500 annual tax-free personal allowance, then the whole of your State Pension will be taxed at the basic rate of 20% (different rates apply in Scotland). If you’re a higher earner some, or all, of your State Pension could be taxed at 40% or more.
Say, for example, you had an annual salary of £30,000 and decided to draw on your State Pension while you were still working. Your salary would use up your £12,500 personal allowance, and the remaining £17,500 of your salary would be taxed at the basic rate of 20%. If you were entitled to the full new State Pension of £168.60 per week (£8767.20 per year), this would also be taxed at 20% along with your remaining salary (see graph below).
The graph illustrates how the State Pension would be taxed if someone with an annual salary of £30,000 claimed it while they were still working (as in the example explained above).
Alternatively, if you were to delay claiming it until you’d stopped earning, as well as getting a higher level of income from your State Pension, you’d now have your full £12,500 personal allowance to set against it. If you had no other taxable income in retirement, then your tax bill would be zero and you’d get the full benefit of your State Pension.
How much could you gain?
Royal London looked at a number of examples of people with different income levels (separately for men and women) to see how much they’d benefit from putting off their State Pension until they stopped working. Our key findings were:
- For those who’d have no other taxable income once they’re retired, the gain from deferring their State Pension for one year instead of taking it alongside a wage could be over £3,000 for a man and over £4,000 for a woman. The reason women do better is that the annual ‘reward’ for delaying your State Pension is the same for men and women, but women on average receive the higher pension for more years.
- For those who have a typical private pension of around £8,000 per year, the gain from delaying their State Pension for one year (until they’ve stopped working) is a little over £1,000 for a man and nearly £2,000 for a woman. The gains here are smaller because the combination of state and private pension takes someone over the tax threshold. So, as a result of this, part of the State Pension would be taxed in retirement.
It’s worth noting that these calculations are based on those with average life expectancies at retirement. People with poorer health would probably draw the enhanced State Pension for fewer years, and so would have less to gain overall.
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