What does an inflation rise mean for your pension? Who will lose out if CPI soars

Inflation forecast: Expert discusses rise

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The latest inflation figure is set to be revealed tomorrow on October 20, and it will potentially bring welcome news to state pension recipients who could see their weekly income increase by more than 2.5 percent next year. However, not everyone will be so thrilled to see an increase to the rate of inflation.

Pensions are not immune from the negative impact of inflation, both when saving for retirement and while drawing down their pension.

For those trying to save for retirement, inflation can be harmful because as the cost of living goes up, people will be forced to spend more money on everyday costs such as food shops and household bills, and therefore have less left over to contribute towards their pension pot.

Inflation also has a negative affect on the interest one’s pension investments rack up. Pensions tend to grow at a higher rate than inflation, but even so, a high inflation rate would reduce the effectiveness of that growth by cancelling part of it out.

If one’s pension grew by four percent each year, but inflation was two percent, the value of one’s pension is effectively eroded by inflation, meaning would have only grown by two percent in real terms.

To look at it another way, if one’s pension grew by two percent from £100,000, it would be worth £102,000 monetarily, but if inflation also rose by two percent, one would be no better off because the price of everything would have also increased by two percent, and therefore £102,000 would only be able to buy what £100,000 bought previously.

And if someone’s pension grew by less than the rate of inflation each year, they would actually be worse off than they were before because the cost of items would have overtaken the growth of their pension.

Worryingly for pension savers, inflation is expected by many to come in at as much as four percent, meaning their pension investments would need to perform even better in order to beat the impact of inflation.

People who leave their pension invested after retiring and choose to make regular drawdowns will also see inflation continue to erode their pension.

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On the other hand, inflation has a positive impact on the value of the state pension, giving people who rely on this a helpful boost to their weekly income every year.

As inflation rates surge, retirees receiving the state pension could see their income rise by as much as four percent each week, which would be the largest increase to the state pension in a decade.

The most recent inflation figures showed that prices in the UK went up by 3.2 percent for the 12 months to August 2021, and the Bank of England believes this will go up again for the year to September 2021.

The rate of inflation for the 12 months to September is to be released on October 20, 2021, and this figure will be used to decide how much the state pension goes up by next year, providing it comes in above 2.5 percent. This is because of the terms of the state pension triple lock.

The state pension triple lock is a Government guarantee which was first introduced in 2010 to help pensioners preserve their spending power over time as inflation causes the cost of goods and services rises to rise.

The triple lock ensures that the value of state pension increases each year by one of three figures, whichever is higher. These are the rate of inflation, the rate of average earnings growth, or 2.5 percent.

It looked like average earnings growth would be the highest of the three figures on this occasion, as it was set to come in at more than eight percent, a massive figure comparative to previous years. However, the state pension will not increase by that amount after all.

This is because the Government took the decision to ignore the average earnings growth element of the triple lock, which they believed to be artificially inflated, essentially creating a ‘double lock’ instead.

It is believed the rate of average earnings growth was so high because of anomalies relating to the COVID-19 pandemic, with one factor being many people’s salaries increasing as came off the furlough scheme.

Inflation has increased rapidly in recent months after being at just two percent for the 12 months to July 2021. The subsequent rise of 1.2 between July and August represents an all-time high in terms of a month-to-month increase.

The full new state pension is currently worth £179.60 per week, which means pensioners pick up £9,339.20 per year. The full basic state pension on the other hand is valued at £137.60 a week, adding up to an income of £7,155.20 each year.

If the state pension does indeed go up by four percent, that would mean pensioners who get the full basic state pension would receive £186.78 per week. That would represent a weekly increase of £7.18 and an additional £373.36 per year.

People receiving the full basic state pension would see their weekly income go up to £143.10 per week, an additional £5.50 compared to the previous year. That would mean an extra £286 of income across the course of a year.

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