Alternatives with triple locks: will the government change the state pension?

Although the government has pledged not to alter the triple lock this Parliament, reform may eventually become necessary due to growing expenses

Pensioners love the state pension triple lock, but taxpayers find it costly, making it a contentious political issue.

State pension payments are increased annually under the policy by 2 percent or 5 percent, whichever is higher, in accordance with inflation or wage growth.

This year, the state pension went up by 4.1 percent in April. Those who receive the full new state pension will see a 472 increase in pay over the course of the year.

The coalition government implemented the measure in 2010 to prevent inflation from eroding the real value of pensioners' incomes.

The policy has become more costly in recent years due to an aging population and high inflation, and its detractors contend that it is unsustainable.

Many also believe that asking taxpayers to pay for the policy when their own finances are already tight is unfair.

In 20232024the most recent year for which data is availablethe state pension cost the government over 124 billion dollars. This represents slightly less than half of the total amount spent on benefits.

As more people become pensioners, the cost is predicted to increase even more. The Office for National Statistics (ONS) released a report this January predicting a 14% increase in the number of people at state pension age between mid-2022 and mid-2032.

The government has pledged not to alter the triple lock during this Parliament, but after this, its future appears less certain.

The next stage of the government's pension review is anticipated to be initiated by Chancellor Rachel Reeves on July 15 during her speech at Mansion House.

The review is anticipated to examine both the state pension and the private pension landscape. What is in scope is unknown at this point.

Damon Hopkins, head of DC workplace savings at consulting firm Broadstone, stated that the state pension is the main source of retirement income for millions of retirees.

"Any shifts toward means-testing, an acceleration of state pension age increases, or modifications to the triple lock would be extremely contentious.

A pension system with two locks.

In a report released on July 2, the Institute for Fiscal Studies (IFS) suggested doing away with the triple lock and switching to a double-lock system.

The think tank stated that, with the exception of years with higher inflation, the state pension should increase annually in accordance with average earnings growth.

The IFS advised the government to select "a target level" of state pension, expressed as a percentage of average earnings across the economy, rather than enacting the new policy right away.

To accomplish that goal, the government could utilize the triple-lock system currently in place before implementing the double lock.

According to the IFS, "when compared to raising the state pension in line with earnings growth, triple lock indexation ratchets up the value of the state pension over time, increasing the cost of the system in a way that creates additional uncertainty."

The IFS claims that the government's historical decision to raise the state pension age in order to control the state pension's growing costs is unjust to people with shorter life expectancies. Many are also in poor enough health to continue working into their late 60s.

Households with lower incomes might also be disproportionately impacted. Richer households with larger private pension savings are generally less dependent on the state pension.

A system that is linked to earnings.

A briefing paper outlining three alternatives to the state pension triple lock was released last year by the independent research group the Pensions Policy Institute (PPI).

In addition to the double lock that the IFS suggested, the PPI examined two options that were linked to earnings.

Option 1 that is earnings-linked would raise the state pension in accordance with increases in earnings. The second earnings-linked option would raise the state pension by the average of earnings growth and the CPI. The second earnings-linked option provides more of a compromise, while the first one exposes pensioners to risk during times when inflation outpaces wage growth.

The Organization for Economic Co-operation and Development (OECD) first suggested this path, adding that lower-income pensioners could also receive direct assistance.

According to the PPI: "This strategy aims to cut state pension spending while focusing resources where they are most needed by lowering the amount paid to the wealthier pensioners and focusing on those who are in need."

This strategy, however, would have the effect of decreasing the state pension as a percentage of average earnings and might allay younger generations' fears that the state pension will be diminished before they are eligible to receive it.

Similarly to current Pension Credit measures, it also stated that means-testing may be necessary for direct assistance for low-income pensioners. But these policies "tend to have low levels of take-up," which means that the benefits are squandered.

Is a means test appropriate for the state pension?

Some have questioned whether the state pension needs a more radical rethink as its cost continues to rise, in part due to the triple-lock guarantee.

Conservative Party leader Kemi Badenoch proposed means-testing the state pension in a January interview with LBC.

She stated, "The triple lock is not the best way to start solving the problem." The means-testing method will be examined. Means-testing is one of the things we do incorrectly here.

There is no indication that this policy will be implemented because the Conservatives are no longer in power. It would most likely turn out to be incredibly unpopular.

At the time of the comment, Helen Morrissey, head of retirement analysis at Hargreaves Lansdown, stated: "The state pension is the main source of retirement income for most people, and very few people do not depend on it in some way.

"The idea of means-testing the state pension raises serious concerns and may prevent people from investing in things like National Insurance credits that could increase their payout.

Morrissey cautioned that such rumors have the potential to discourage people from saving for their pensions because they believe they will be punished for acting morally and will no longer be eligible for the state benefits because they have amassed enough wealth elsewhere.

Others may end up oversaving as a result of their concern that they might not receive a state pension in the future, leaving them short today.

Aegon's pension director, Steven Cameron, added that such a move would be very controversial. "How would mean-testing be conducted, where would the line be drawn, and how would pensioners know what to anticipate".

The IFS opposes this method of cost management as well. The think tank called on the government to pledge never to test the state pension in its most recent review of pensions.

The think tank stated that "this promise would help working-age people in their retirement planning, as they could have faith in the state pension being available." It is also important to remember that even for those with higher incomes, a sizable portion of their income comes from the state pension.

Research cited by the IFS indicates that for low-income pensioners (bottom fifth), the state pension makes up 71% of their retirement income. It represents 23 percent, even among the wealthiest five.