State Pension – knowing it’s worth
Whatever your clients’ reliance on the State Pension, this entitlement shouldn’t be dismissed as secondary or considered of little value alongside what could be significant private pension benefits. As part of the retirement planning process, obtaining a State Pension forecast should be a matter of course for every client. This information is vital in establishing your client’s secure income levels and highlighting any gaps in their National Insurance record.
A quick recap. The new flat-rate or single-tier State Pension was introduced on 06 April 2016. Pensioners who retired before 6 April 2016, still received the old two-tier pension, with those retiring after that date receiving the new State Pension. At the date of the change, everyone received a ‘starting amount’ in respect of their pre-April 2016 NIC records that was compared with new State Pension accrual had this been in place over the same period and the higher figure used as a basis amount. Another key change to the new system was the number of qualifying years required to receive a full State Pension rising from 30 to 35.
In 2019/20, full entitlement to the new State Pension is £168.60 a week and this is set to rise to £175.20 a week (£9,110.40 per annum) in April 2020. The ‘triple lock’ guarantee sets State Pension increases as the greater of inflation, wage growth or 2.5%. The figure applied to the 2020/21 State Pension will be wage growth of 3.9%, which exceeds the inflation figure of 1.7% in September 2019. Since the introduction of this guarantee in 2010, increases applied to the State Pension have averaged an inflation beating 3.1% per annum.
Consider just how much it would cost to purchase a single life annuity income of £9,110.40 per annum that escalated at 3.1% p/a. If you plug these figures into a quick annuity quote for a 66-year-old with no health issues, you will find that an annuity income with a similar shape requires a purchase price in the region of £300k. This illustrates the real and significant value of State Pension entitlement and even for affluent clients, this represents a significant benefit.
Where NIC gaps are identified, these can generally be filled for the prior 6 years by way of voluntary Class 3 NICs (or Class 2 NICs for the self-employed). Gaps may arise due to periods of unemployment where benefits were not claimed, time spent working abroad or periods of low paid employment. It’s also worth checking if your client qualifies for NIC credits, as in some instances they are not awarded automatically. e.g. carer’s who are not in receipt of Carer’s Allowance.
Class 3 voluntary NICs for the 2019/20 tax year, cost £780 per year purchased. In exchange, State Pension entitlement increases by approximately £4.82 p/w or £250.64 p/a. Whilst state of health is a key consideration in the decision to make voluntary contributions, it would only take around 3 years of pension payments to recoup the cost of the voluntary NICs. For clients who are in good health, funding NIC gaps makes real financial sense and is almost certain to yield higher returns than investing or pensioning the same sum.
The above example does however take a simplistic view and relates to NIC gaps identified beyond April 2016. Where gaps are identified prior to April 2016 or the client’s ‘starting amount’ was higher than their new State Pension, it may be the case that voluntary contributions aren’t worth it. If you are in any doubt over the merit of voluntary NICs, further information can be obtained from the Future Pension Centre, who are also able to provide State Pension statements.
Remember also that the new State Pension can be deferred, although the terms are not as generous as its predecessor and deferred amounts can no longer be taken as a lump sum. Increases are 1% for every 9 weeks deferred, equivalent to 5.8% per year and it should be noted that deferred pension will only be subject to inflationary rises rather than the full triple lock. Whilst this may be a consideration for clients working beyond their SPA, it must be appreciated that for every year of deferral, the ‘pay back’ period is around 17 years.
A final thought is in relation to the generous ‘triple lock’ guarantee that was introduced in 2010; this has been a contentious policy and branded unsustainable by some. At the 2017 General Election, the Conservatives threatened to end ‘triple lock’ by 2020, but this was saved under the party’s deal with the DUP. Now that the 2019 election has passed, we may again see moves to reduce the burden on the Exchequer, it’s definitely a case of watch this space!
How to check your state pension forecast
Obtaining a State Pension forecast is a simple process, so there’s no excuse that entitlement be assumed without confirmation or State Pension planning be neglected where there is the opportunity. For some, the State Pension will be their only secure income in retirement; for others it will be the ‘icing on the cake’; but for all, it is a valuable guaranteed and escalating income that is payable for life.
For a State Pension forecast go to Click here to check your state pension
Future Pensions Centre contact: Telephone: 0800 731 0175