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Good news for pensions – bad news for tax bills

This morning’s announcement that inflation in the year ended September 2017 increased to 3% will be welcomed by those on state pensions, as it is the September inflation rate that is used to set the increase in state pension next April.

The September inflation rate is also used in the NHS Pension Scheme to set the revaluation rate each year which is inflation plus 1.5%. This means that the value of career earnings will be increased by 4.5% in 2017/18; a significant increase in the value of pension benefits.

Unfortunately for higher earners, subject to annual allowance tax charges, this is going to mean increased tax bills in 2017/18. Although the annual allowance calculation is meant to exclude inflationary rises, the inflation rate used in the calculation is that of September 2016 (which was only 1%), not the September 2017 rate of 3%.

Therefore, as benefits in 2017/18 will increase by 4.5%, and the allowance for inflation is only 1%, higher earners are going to be taxed on a 3% increase in their career earnings. This seems unjust, when in reality the uplift is only 1.5% above inflation. The position will correct itself if inflation falls back next year, but that’s no comfort to those facing high annual allowance tax charges in 2017/18.

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