Personal Finance

The State Pension

Calling the state pension a “pension” is misleading. When you contribute, you don’t actually pay into a government-provided pension pot that grows over time and releases your money once you retire. Instead, you contribute National Insurance which qualifies you to receive a defined financial benefit in the future. Importantly, you don’t necessarily get back all the money you invest. Instead, your National Insurance contributions go into the general public funds for distribution to those entitled to receive them today. If you make sufficient contributions, you will become entitled to receive fixed benefits when you reach pensionable age in the future.

What Is The Justification For The State Pension?

An early version of the State Pension was introduced in 1908 to help alleviate poverty and to support people when they retire. It has been reformed many times over the years in response to changing demographics and lifestyles. The system has been criticised because the money you pay in today doesn’t go towards your retirement. Instead, it is used to fund the State Pension for current retirees. Yet, on the flip side, people who qualify for the State Pension will receive a baseline income to help pay for their retirement, which can only be a good thing.

What is unclear for everyone is what their State Pension will look like when they become eligible. And as the State Pension currently represents over 10% of public spending, it could be a potential target for governments looking to make big changes to the country’s budget planning. So, while the justification for the State Pension is sound, it makes sense to save into personal pensions because the basic State Pension figure will provide for only a very basic lifestyle in retirement

When Can You Claim The State Pension?

When you can claim your state pension depends on two things: your gender and when you were born.

You can claim the basic (old) state pension if:

  • You are a man born before 6 April 1951
  • You are a woman born before 6 April 1953

If you were born on or after these dates, you must apply for the new state pension.

The Difference Between The New And Old State Pension

The old state pensions pay a maximum of £134.25 per week, depending on the contributions that you make during your life. The difference comes down to how long you must pay National Insurance.

The new state pension is available to you if:

  • You are a man born on or after 6 April 1951
  • You are a woman born on or after 6 April 1953

The full new State Pension is currently £175.20 per week. Thus, the maximum payment for the old and new pension is not the same. The new one is more generous.

How much you actually receive depends on your National Insurance record.

If you wanted to get the maximum payout under the old system, you had to register thirty qualifying years, either by working and paying National Insurance, getting National Insurance Credits (while unemployed, for example), or paying NI contributions voluntarily. Those who worked less than that received a proportion of the top figure, corresponding to the number of contributing years.

If, however, you fall under the new state pension, then the rules are different. If you want to benefit, you need to have made NI contributions for at least ten qualifying years. They do not have to be in a row. You still need thirty qualifying years to receive the full amount.

In Other Words, You Need To Do One Of The Following:

  • Work and pay NI contributions through your employer
  • Received National Insurance credits (if, for instance, you were on maternity leave or unemployed)
  • Pay voluntary NI contributions for ten years

The new state pension also makes provisions for different life circumstances. If you live and work abroad, you may still have the opportunity to contribute to your pension scheme. For instance, if you worked in the EEA, Gibraltar, Switzerland or certain other countries, you may be able to use that time to make up your ten qualifying years.

If you paid married women’s or widow’s reduced rate contributions, you might also qualify for the new state pension, though that depends on your circumstances.

What Is The History Of The State Pension?

The state pension wasn’t always a feature of the British financial landscape. Politicians introduced it in 1946 as part of the National Insurance Act in the years immediately following WWII. People began making NI contributions in 1948, and continue to do so to this day.

National Insurance comes out of wages and pays for the benefits of the generation currently at retirement age. Wage-earners pay contributions of up to 12 per cent of their income. In return, they receive benefits when they retire.

Before the official State Pension, there was a more limited old-age pension. From 1908, men who lived past 70 could claim five shillings a week, enough for essentials such as food and transport. Historically, though, few reached the qualifying age for the benefit, given the average life expectancy at the time. Now far more people qualify for pension benefits.

Who Are The Winners And Losers Of The New State Pension?

Rule changes under the new state pension created both winners and losers, though the extent of the losses and gains are relatively modest in most cases.

The Winners Include:

  • Workers who contracted out their NI contributions
  • People who contracted out and can receive their pensions from the age of 55
  • Self-employed people who didn’t qualify for state second pension previously
  • The low paid who didn’t build up additional state pension

The People Who Are No Better Or Slightly Worse Off Include:

  • People with less than ten years of qualifying NI contribution years
  • Widows, civil partners, and spouses who can no longer inherit state pension benefits based on the NI contributions of their partners
  • People who have more than 35 years of NI contributions
  • High earners who cannot build up their state pension more

The state pension will likely become a political hot potato as the population ages. The more people over the retirement age, the larger the annual payouts.

If you’d like to find out more about the state pension, get in touch with a FCA regulated financial adviser. Financial advisers tend to work for organisations such as Portafina or on a  self employed basis. You can find an adviser by visiting the unbiased website.

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