The rise in the average price of goods and services, measured by the Consumer Prices Index (CPI), has a huge impact on savers and investors in the UK.

For example, if you buy an annuity – a retirement policy which pays a guaranteed income for life – you can choose whether or not to lock inflation-linked rises into your policy. Anyone in receipt of an annuity who doesn’t have such protection will see their spending power fall as prices rise.

Equally, stock market investors – whether building up a pension pot or remaining invested in retirement through drawdown – should keep an eagle eye on rising prices when setting their investment strategy and reviewing the performance of their portfolio.

After all, with CPI inflation ticking up to 3% in September
a portfolio that pays returns of 2% will be delivering a real-term loss of 1%.

Aside from the impact on investments and private pension incomes, September’s inflation figure is important for a couple of other reasons.

Increasing the lifetime allowance

The amount you can save in pensions throughout your life is restricted by the lifetime allowance. This currently stands at £1m and applies to final salary pensions, drawdown, lump sum withdrawals (also referred to as Uncrystallised Funds Lump Sums or UFPLS) and annuities.

Whenever you take money from your pension, the value of the benefits you receive is calculated as a percentage of the lifetime allowance. So if you use £100,000 of your pension to buy an annuity, for example, you will get a certificate saying you have used up 10% of your lifetime allowance.

If you have previously taken out ‘protection’ against previous lifetime allowance cuts you may be able to save more than £1m without facing an extra tax charge.

From April next year, the lifetime allowance will rise in line with inflation, with the September figure of 3% used to increase the figure. That means for the 2018/19 tax year (beginning in April next year) the lifetime allowance will rise to £1,030,000.

Savers can face penalties of up to 55% on any excess above the lifetime allowance, meaning the extra £30,000 could save someone £16,500 in HMRC penalties. Similarly, the maximum lifetime tax-free cash entitlement will rise from £250,000 (25% of £1m) to £257,500.

State pension

The September inflation figure will also be used to increase state pension payments. The UK state pension is protected by the ‘triple-lock’, meaning it rises in line with the highest of average earnings, inflation or 2.5%.

That means the flat-rate state pension will rise from £159.55 a week (£8,296.60 a year) to £164.33 a week (£8,545.50 a year).

Tom Selby,

Senior Analyst, AJ Bell

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