Latest inflation figs determine 2013’s basic state pension, ISA allowance & benefit levels

This morning the Office of National Statistics (ONS) announced the UK inflation figures for September 2012. Now while most people may only pay a passing interest in the monthly inflation announcements, September’s figures actually impact on many people’s lives.

What were September’s inflation figures?

Annual inflation in September as measured by the Consumer Prices Index (CPI) fell to 2.2%, its lowest level in nearly 3 years. The Retail Prices Index (RPI) measure fell to 2.6% from 2.9% in August. But inflation is expected to increase again in the coming months due to hikes in energy bills.

And what’s the difference between CPI and RPI?

Both the CPI and RPI are attempts to estimate inflation in the UK. The RPI measure is arguably the better known in the UK. Sometimes referred to as the “headline” rate of inflation, it is the rate often cited by unions as a benchmark for agreeing pay settlements. It was also the basis for pension increases, National Savings Index linked investments and a host of social benefits.

The CPI measure is the rate the government’s overall inflation target is based on. It is an internationally comparable measure of inflation

Both indexes analyse the prices changes of a range of goods and services over time (referred to as the ‘basket’). Some of the goods and services will carry a higher weighting within the indexes, reflecting the fact that we spend more on some items than others. In addition, the actual items which are included in the basket are reviewed each year and are subject to change.

So why do the CPI and RPI values differ?

Firstly the two measures cover different items. For example, the CPI does not include Council Tax, mortgage interest payments and some other housing costs. The CPI measure also includes some items such as charges for financial services which are not in the RPI. Another difference is that the CPI measure covers a broader sample of the population in its calculations than RPI.

But the main difference in value is due to a difference in the mathematics of each index which means that the CPI is always lower than RPI for a given data sample.

So why are September’s inflation figures important?

A host of social benefits and tax breaks are increased in line with inflation, as measured by September's figures. The actual increase to benefits takes affect at the start of the next tax year. But inflation is expected to increase again in the coming months which won't be reflected in benefit increases if inflation remains above its current rate come April. The table below summarises the annual increases to key benefits and allowances:

Type of benefit	Annual increase due in April 2013*
Jobseeker's Allowance, Income Support and other income-related benefits	Usually increased in line Consumer Prices Index (CPI) in September: i.e. 2.2%
Disability Living Allowance, Carer's Allowance and other non income-related benefits	Usually increased in line Consumer Prices Index (CPI) in September: i.e. 2.2%
State pension	Under the terms of Triple Guarantee the basic state pension is likely to increase by 2.5%. This means an increase from the current £107.45 a week for single pensioners to £110.14
Tax credits and public sector pensions	Usually increased in line Consumer Prices Index (CPI) in September: i.e. 2.2%
Stocks and Shares ISA allowance	Consumer Prices Index (CPI) in September 2012: 2.2%, although previously the increase had been linked to RPI. That means a likely increase from the current ISA allowance of £11,280 to £11,580 (so it's divisible by 12 months). Which would mean the annual cash ISA limit will increase to £5,790.

* these figures are based on calculations under the current rules. The Chancellor has confirmed the official limits in his Autumn statement on 5th December 2012. Full details here.

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