‘Mind-blowing’ complexity of deal for those who contracted out undermines pledge of more generous flat rate, writes Jeff Salway
PEOPLE who have contracted out of the additional state pension face a struggle to work out their entitlement to the new flat rate pension, experts say amid further criticism of the changes.
The transitional arrangements applying to those who have contracted out have been criticised as “barely intelligible”, raising concerns that some people could miss out through no fault of their own.
The single tier state pension, taking effect next April and applying to anyone reaching state pension age on or after that date, is designed to help people better understand the state pension they can expect when they retire. It’s also aimed at giving women, the self-employed and those on low incomes an improved chance of being eligible for the full state pension.
The full payment is likely to be £151.25 a week from April, although the figure hasn’t yet been confirmed. Retirees with 35 years’ worth of full qualifying national insurance contributions (NICs) will get the full single tier payment, while at least ten years of NICs or credits will be needed to claim at least some of the new pension. Entitlement to the basic state pension is now 30 qualifying years of NICs.
The new system was originally presented as a simplification of state pensions, and more generous than the present arrangement. But that won’t be the case for everyone.
The Institute for Fiscal Studies estimates that almost seven in ten new claimants in the first four years will get less than the full amount. They will typically be retirees who have contracted out, part-time workers, and women who have taken time out of work to care for children.
Much of the confusion surrounds the treatment of those who have contracted-out of the additional state pension (the state second pension, S2P, or, until 2002, the state earnings related pension scheme, Serps) in return for lower NICs.
The additional state pension will be phased out from next April. It will still be paid to people who reached state pension age before 6 April, 2016, but no further contributions can be made after then.
Transitional measures for people with entitlements under the current system, including those who contracted out, have now been set out in a Department for Work and Pensions (DWP) factsheet.
But Malcolm McLean, senior consultant at Barnett Waddingham, has hit out at the “mind-blowing complexity of the arrangements” being put in place to take account of contracted out periods.
“Although it will be barely intelligible to the vast majority of those affected it does confirm the difficulty the DWP has faced in giving effect to past accrued rights and rebates under the old system and configuring them into the new one,” said McLean.
“It also gives the lie to the claims made originally by ministers that the new system would produce a more generous, simpler, flat rate state pension for millions of new pensioners going forward – none of these claims would appear to be true at least in the short term.”
The transitional arrangements are based on a “foundation amount”, which will be the higher of the pension due under the existing rules and the entitlement under the new regime. However, the calculation will also make deductions to account for lower NICs that were paid during periods of being contracted out.
Graeme Mitchell, managing director of Lowland Financial Planning in Galashiels, said the changes had been poorly communicated.
“I was initially lulled into thinking that it was a flat rate for everyone and it took some time before the penny dropped that they would (not unreasonably) deduct money for those who had built up pensions elsewhere,” he said. “However it is complicated and has not really been properly explained.”
The transitional arrangements will particularly affect people who worked for a firm with a final salary (defined benefit) pension, where most employers contracted out and undertook to pay the same as the additional pension, or who at some point contracted out and had the money paid instead into a personal pension.
“In both cases they will have something from these pension arrangements to offset the reduction in the new flat rate pension. It’s never easy to compare the two, although final salary schemes should be more directly comparable,” said Mitchell. “Personal pensions offered much more choice in terms of when and how you accessed the money and of course the new pension freedom options have added even more choice for those with protected rights funds.”
Existing pensioners and those reaching state pension age before April 2016 will from October be able to boost their rights by purchasing Class 3A NICs. An additional £1 a week of state pension benefits will cost £890 for those aged 65, rising to £22,250 worth of Class 3A NICs that would buy the £25 a week maximum.
The credits are added to the weekly pension payment for life and will rise with inflation. The cost per extra £1 will fall with age, lowering to £779 for 70-year-olds, to £674 from age 75 and down to £127 for centenarians.
For more information on how to boost your entitlement call 0845 600 4270 or visit www.gov.uk/state-pension-topup.
To get a state pension forecast call the Pension Service on 0800 731 7898 or go to www.gov.uk/calculate-state-pension.