Germany is planning to let pensioners earn up to £1,760 a month tax free to tempt them to stay in jobs or come out of retirement.
It begs the obvious question – is it a good idea that could work here?
The deal on offer from 1 January is aimed at boosting the German economy by keeping skilled and experienced people in the workforce.
The Aktivrente or ‘active pension’ plan being pushed by Chancellor Friedrich Merz will be open to German workers after they reach the statutory retirement age of 67.
However, some workers will be excluded such as civil servants, the self-employed and tradespeople.
And although other pensioners can earn up to €2,000 a month tax free, they will also keep on having to pay social insurance contributions.
Extra revenue from that source, plus any economic growth generated, could help offset or more than pay for the estimated €890million (£785million) a year in lost tax.
Chancellor Friedrich Merz: Supports ‘active pensions’ to keep older Germans in the workforce and boost the economy
What does the UK offer older workers?
People over 66 get an extra 5.8 per cent added to their state pension payments for each year they delay taking it.
That can be helpful to those who stay in work and would be pushed into a higher tax bracket if they took their state pension on top of their salary.
Older workers do not have to pay National Insurance – our version of German social insurance contributions – if they keep earning after reaching state pension age at 66.
Younger employed workers pay 8 per cent NI on basic rate earnings, and 2 per cent on anything over that.
However, pensioners would feel sore about that ‘perk’ if Chancellor Rachel Reeves still went ahead with a rumoured plan to raise income tax by 2p and cut National Insurance by 2p.
That is reportedly off the table again now, but if the ‘2 up, 2 down’ idea was announced in the Budget on 26 November, it would result in most taxpayers seeing no change to their take-home pay. Pensioners would get the 2p income tax hike only.
We asked pension experts what they thought of the German Aktivrente plan and whether it might work in the UK.
The ‘2 up, 2 down’ idea would be a disincentive to return to work
‘With the number of people in the UK aged 65 projected to rise by 3.3million in the next 20 years, and by 6.5million in the next 40 years, it makes sense to keep skilled people in the workforce,’ says Martin Willis, partner at consultant Barnett Waddingham.
‘Particularly more so given over one in five working-age adults are out of the workforce due to health reasons.’
But the UK would be moving in the opposite direction to Germany if ‘two up, two down’ happens after all.
‘It could disincentivise workers to return to work, at a time where we need boots on the ground.,’ he says.
Willis says the UK has gained advantage in recent years from an established flexible retirement structure.
‘People can vary their income, or choose to take up lower paid or part-time work in a way that fits their preferences.’
But he points out the first generations of people approaching retirement age now with predominantly ‘defined contribution’ pensions – rather than the more generous final salary ones – might need to work for longer, despite the increase in the state pension.
Martin Willis: UK has gained advantage in recent years from trend towards flexible retirement
Younger workers could feel left behind and blocked in careers
‘Germany’s move to offer a tax-free incentive to people who choose to work beyond retirement age reflects a reality many developed economies are grappling with – fewer working-age people, longer lives, and lower birth rates,’ says Mike Ambery, retirement savings director at Standard Life.
‘With the working-age population shrinking faster in Germany than in the UK, keeping experienced workers in the labour market could be an economic win–win.’
He notes that valuable skills will be retained and industries will benefit from continuity, while the tax system gains from extended contributions.
Meanwhile, the extra income earned by older people could help them with rising living costs, boost retirement savings, or provide more financial flexibility in later life.
But Ambery says the UK would have to design any similar policy to address workforce shortages and the rising cost of the state pension carefully.
‘While rewarding those who want to stay on makes sense, it’s important that such incentives don’t create a sense of pressure on people to work longer than they’d planned or can manage. For many, retirement is a health and lifestyle decision as much as a financial one, and any scheme should respect that choice.’
‘There’s also a delicate balance to strike between generations.
‘Younger workers could feel left behind without a similar incentive for their efforts and there’s a chance that an ageing workforce could limit their own opportunities for progression, potentially causing resentment and issues with job satisfaction and motivation further down the line.’
Mike Ambery: ‘It’s important that such incentives don’t create a sense of pressure on people to work longer’
Encouraging people to keep working is a ‘win win’
The German reforms are example of how the tax system can incentivise individuals to work beyond state pension age, according to Aegon’s pensions director Steven Cameron.
‘Many countries, including the UK, face challenges of an ageing population and may look to older individuals to remain in work longer to boost their domestic economic growth.’
Cameron says research by Aegon has shown only 28 per cent of current employees expect to have a ‘hard stop’ retirement.
Meanwhile, actively encouraging people to remain in the workforce longer can be good for economic growth and individuals – a win, win.
‘In the UK, (and unlike in Germany) those above state pension age don’t pay National Insurance on earned income,’ says Cameron ‘Some have called for the Chancellor to remove this exemption – something which would discourage later life employment just when countries like Germany are doing the opposite.’
He says if the ‘2 up, 2 down’ plan happened it might be neutral for most employees, but those above state pension age with earned income were one of the key groups who would lose out.
‘They wouldn’t “benefit” from any cut in NI but would have to pay the extra income tax – a disincentive to continuing in work.’
Steven Cameron: Just over a quarter of current employees expect to have a ‘hard stop’ retirement
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