Angus Hanton argues that tax changes could ease the burden of meeting increasing costs as the population ages
This blog is not about the many pensioners who are very poor and need all the help the government and others can afford to give them. The work of AgeUK and others in this area is extremely valuable and actively supported by the Intergenerational Foundation.
However, many retired people and older workers do very well from their pensions and are taxed rather lightly. This is true for income tax, capital gains tax and even expenditure tax.
Taxation of pensioners’ income
Above the state pension age (about 65), older people’s income attracts no National Insurance charge. This is such a major concession that even AgeUK have recently suggested this could be changed. National Insurance is in effect a supplementary income tax and the government have implicitly acknowledged this, but they do not dare to merge National Insurance and Income Tax because it would make the headline figures for the income tax rate look much higher.
This highlights the general taxation advantage that pensioners enjoy over other members of society, if they have unearned income: this income attracts no National Insurance, whether the income is from renting out property, bank interest, dividends or royalty payments.
But beyond this, comfortably-off pensioners have other income tax advantages. For example they have a higher personal allowance for earnings before they start paying income tax.
These advantages contrast very favourably with those of a younger generation who will often have high mortgages and who have to make mortgage payments out of income on which both Income Tax and National Insurance has been paid. The older generation were not only paying lower mortgages but for many years received income tax relief on those mortgage payments (MIRAS).
How pensioners’ assets are taxed
The main assets of retired people are usually housing and pension funds. In both cases the taxation burden is surprisingly light.
Housing assets are not taxed directly: Council Tax is a tax on occupiers. Furthermore a sale of a principal private residence (i.e. one’s home) will be tax-free, and any stamp duty is paid by the purchaser.
Pensions tend to be treated leniently in that income and capital gains within pension schemes are tax-free. Some would say that the flipside is that payments out of pension schemes are subject to tax but this is to over-simplify. In general, a quarter of a pension fund can be paid out totally tax-free after a certain age (currently 55), and other payment can be timed so that money is received when lower marginal tax rates apply.
There are also a range of government-sponsored tax-saving schemes and allowances designed for those with capital which tend therefore to favour pensioners and baby-boomers. These include ISAs, SIPPs, VCTs, EISs, and also the lenient taxation of capital gains with large tax-free allowances and a low rate of Capital Gains Tax (currently 28%).
Even expenditure taxes are lower for wealthier pensioners
For many people drawing a pension, they will be spending money on lots of items that are free of Value Added Tax. For example, not only food and books but also personal services from individuals such as home help, personal care and cleaning are typically VAT-free.
We know that the baby boomers, and recently retired people, travel abroad disproportionately more than the rest of the population and much of this expenditure bears no VAT or at least no UK expenditure taxation. Air fares and rail fares, for example. are VAT free, as are taxis.
Therefore, because of their expenditure patterns, wealthier pensioners benefit from lighter expenditure taxation than the general population, by tending to spend on items with low consumption taxes (expenditure taxes).
The UK taxation system for pensioners needs reviewing for intergenerational fairness
In the past, most pensioners were poor whereas now there are many who are comfortably off or even wealthy, and thankfully this group has long life expectancies by historical standards.
The implications of this have not been worked out, and this group of pensioners benefits from a generous taxation system which is really an anomaly. The tax system has evolved piecemeal and is now urgently in need of reform for the sake of intergenerational fairness.