Rising life expectancy and mounting costs are forcing difficult choices about who pays

The UK’s state pension has reached a landmark moment. While the first state pension was introduced more than a century ago, this year marks 100 years since the creation of the contributory model that still underpins retirement today.

Rising life expectancy and mounting costs are forcing difficult choices about who pays, how much they receive and when they can retire.

Here, we look at how the contributory state pension reached its centenary, why major changes may be looming, and what they could mean for retirees and taxpayers alike.

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How the state pension began

When the state pension was first introduced in 1909, it was means-tested, paid only to those aged 70 and over, and set at a level that offered little more than subsistence.

At the time, life expectancy at birth was around 50, meaning many workers never lived long enough to claim it.

The system changed in 1926 with the introduction of the contributory state pension, which linked entitlement to national insurance contributions (NICs) and reduced the pension age to 65.

Over the following decades, the state pension expanded alongside the welfare state. The most recent major reform came in 2016, when the government introduced the flat-rate new state pension.

Today, the full new state pension is worth £230.25 per week, rising to £241.30 per week from April. But its long-term future is increasingly uncertain.

Below, we look at the challenges the state pension faces if it continues for another 100 years.

Rising pension ages

Sir Steve Webb, former pensions minister and now partner at pensions consultancy LCP, said further increases to the state pension age are increasingly probable.

He said: “The biggest change we are likely to see is a continued increase in state pension ages, reflecting the big increases in life expectancy at retirement in the last century.”

A Government review of the state pension age – which is currently 66 for both men and women, rising to 67 between April this year and April 2028 – is currently under way, with its conclusion expected after the next election.

For the Treasury, even small increases have a big impact, Webb said.

“Increasing the state pension age by just one year saves the government around £8bn per year, which would make a meaningful contribution to the chancellor’s fiscal position.”

Critics argue, however, that average life expectancy masks stark inequalities, with people in poorer health or physically demanding jobs less able to work longer, adding to the number of those already struggling financially in their older years.

Adapting the triple lock mechanism

Webb said the “very generous” triple lock annual uprating is likely to be scaled back.

But he added it’s important that it is replaced by something which keeps a link to the wages of working-age people, as “anything less than this could lead to a serious increase in pensioner poverty”.

Since 2010, the triple lock has guaranteed that it rises by the highest of inflation, earnings growth or 2.5 per cent.

While this has protected pensioners’ incomes, it has also driven costs sharply higher and made public spending harder to predict.

It will cost an estimated extra £15.5bn annually by 2029-30, adding billions more to the national debt than initially predicted due to high inflation and wage volatility, official figures show.

There have been several suggestions about how this could change, including into a double lock – linking pensions to inflation or earnings but dropping the 2.5 per cent floor.

Catherine Foot, director of the Standard Life Centre for the Future of Retirement, said a shift to a double lock would make future increases more predictable, but would be extremely controversial politically.

“It is clear that any changes made to the state pension should recognise that policies need to be in place to help more stay in work until reaching state pension age and to support people financially who are unable to work until they reach this milestone.

“It’s also important that if the Government decides to make any changes to state pension age arrangements in the future that there is a clear communication plan in place to help ensure each generation can plan their future without sudden surprises.”

Will the state pension become means-tested?

Another policy sometimes suggested is means-testing the state pension – essentially, it would most likely mean that your income would be taken into account, to some extent, when calculating your state pension.

Experts are divided on how likely this will be.

Webb said: “This seems highly unlikely. Such a change could not reasonably apply to those who had already retired or those close to retirement, meaning that the short-term saving from means-testing would be nil.

“The political opposition to something as fundamental as this would be huge. It is a brave politician who proposes a policy which generates no savings for five to ten years but is immediately highly unpopular.”

Jamie Jenkins, director of policy at Royal London, however, said: “Means-testing can play an important role in ensuring that state benefits are targeted in helping the people who most need them and ensuring the long-term sustainability of funding.

“However, the state pension needs to be considered in the wider context of decades of under saving for retirement here in the UK.”

More people will have to think about tax

For the first time next year, the state pension will surpass the personal allowance threshold from 2027.

The state pension will rise by 4.8 per cent this April, taking the annual amount to £12,547.

The personal allowance – the amount you can earn before you have to pay any income tax – will remain frozen at £12,570 until 2031, meaning that by 2027, it is expected that the state pension will be higher than this amount.

Although the Chancellor said she is working on a solution so that people receiving just the state pension will not be taxed, it has caused concern for many, who are worried their retirement funds could be hit.

Those who have private pensions, as well as claim the state pension, aim to keep their taxable income below the higher-rate threshold of £50,270 to avoid paying 40 per cent income tax.

With the full state pension worth £12,540 per year, that leaves scope for private pension withdrawals of £37,730.

Andrew King, pensions specialist at Evelyn Partners, said this thinking is increasingly common.

He said: “By paying 40 per cent tax on pension income, you would effectively be handing back some of the tax relief that your contributions benefited from.

“That means some people will set themselves a ceiling of £50,270 for taxable income in retirement, and that would mean a comfortable life for many, especially if they have no housing costs.”

Tom Selby, director of public policy at AJ Bell, said managing tax efficiently can be just as important as building a large pension pot.

He said: “While keeping your income tax bills as low as possible will be an important factor in many people’s retirement income strategies, the key focus should usually be on delivering a sustainable income that funds the lifestyle you want.”

Spreading withdrawals can dramatically reduce tax bills, he suggested.

For example, someone who takes a £100,000 pension withdrawal and has no other taxable income would face a total income tax bill of £27,432 in 2026-27.

If that person instead took £50,000 in 2026-27 and £50,000 in 2027-28, their total income tax bill would be under £15,000 as each withdrawal would be under the higher-rate – 40 per cent – threshold.