The Future Pensions Jigsaw
MoneyWise Autumn 2006
One of the most intractable problems the government has tried to tackle has been pensions. The latest instalment is the government’s Pensions White Paper that sets out its vision of the future for providing state and private pensions.
The paper adopts many of the ideas made by Lord Turner in his earlier Pensions Commission, although seasoned observers of the government may detect the hand of the Treasury in some of the cost-cutting changes to the earlier proposals. All pensions require long lead times. So the first changes will not begin to take place until 2010 and the final adjustments may not occur until around 2030.
The following is a quick guide to the government’s plans and how they could affect you.
- Basic State Pension. Increases in the basic state pension will be linked to the average growth in earnings rather than just the significantly lower annual rise in prices, starting sometime between 2012 and 2015. The earnings link will not extend to S2P (the state second pension) or its predecessor SERPS. It will take only 30 years of national insurance contributions (NICs) to qualify for the full basic state pension. The qualifying period is currently 44 for men and 39–44 for women. This change will take effect from 2010 and should be a major help for people who take career breaks and find it hard to achieve a full contribution record. At the same time, the requirement to make NICs for at least a quarter of the qualifying period to receive any pension entitlement whatsoever will be scrapped.
- State Pension Age is set to increase by one year starting in about 18 years’ time, and then again, starting in about 28 years’ time and finally again starting in about 38 years.
- Pension Credit will be reformed, reducing the benefit for those with a private pension and/or investment income. Even so, the White Paper estimates that by 2050, around a third of all pensioner households will still have such low incomes that they will be eligible for pension credit.
- State Second Pension (S2P) will gradually become a flat rate pension rather than earnings related, with the phasing process probably ending around 2030. The option of contracting out of S2P via a personal pension or other money purchase scheme will probably end around 2012. Contracting out via final salary pension schemes will continue, but it too looks likely to disappear eventually.
- Personal Accounts will be new pension plans for employees who are not already members of good pension schemes. They will be automatically enrolled, though they will be allowed to opt out if they wish. The aim is for employers to contribute 3% of earnings, employees to contribute 4% and the government – through tax relief – to contribute 1%. These contributions will be based on earnings subject to full NIC rates between £5,035 and £33,540 in 2006/07 terms.
These changes could turn out to be good news for low earners, but if you are further up the income scale, you may find yourself worse off because of the move to a flat rate S2P and the higher pension age. One thing has not changed: for most the route to a comfortable retirement remains through private provision, not relying on the state.