State Pensions and the missing £144,625.81
Pension Insight magazine editor Bob Campion recently wrote that the gradual reduction in maximum state pension benefits could end up costing some people £144,625.81.
He calculated this is the amount you’d need to buy an annuity to replace the lost £6,326.84 a year if the maximum state pension reduced from £13,606.84 to £7,280
The £13,606.84 is the theoretical maximum for someone with full basic state pension (BSP, currently £102.15pw in 2011/12 available to those with more than 30 years NI contributions) and maximum second state pensions (SERPS and S2P). This contrasts with the maximum £7,280 payable if we move to the proposed 3140 per week flat rate system. It would affect most higher earners and those who do not qualify for any kind of pension credits or means tested pension top ups. At present almost 1 in 2 pensioners are eligible for top ups of some kind but for those who do not qualify for state assistance over and above the basic state pension the changes to state pension rules looks likely to mean a significant reduction in available benefits over the coming decades, with less effect on those retiring sooner, especially in the next 10 years.
As a point of interest if the new rules all come in when proposed (but it looks likely they will be brought forwards) it will be into the 2080’s before everyone is on the same rate. Until then there will be a mixture of different regimes and people will have multiple pensions (private and state) with different rules and retirement ages applying depending on age and pension structure.
This makes it nigh on impossible to accurately calculate one’s own state pension benefits until the point you reach them. Indeed even the DWP are not really sure what income a pensioner will get until they reach state pension age (65 and rising). As an IFA it makes it financially impractical to charge a client to work this out. The time and cost involved outweigh the benefit!
Contracting out (called SERPS up until April 2002 and S2P afterwards) will soon no longer be available from money purchase schemes, which includes personal pensions and SIPPs – see also http://greenfinancial.blogspot.com/2011/12/contracting-out-serps-s2p-all-that.html
It used to be the case, that as an IFA, I could estimate whether it was ‘worth’ contracting out or not. There were a multitude of individual factors but the biggest was often if aged under or over 45. So the ending of contracting out from money purchase schemes is a welcome simplification but as indicated above the change to the new regime will bring complification [ED: not a real word but should be] well into the 2080s. Again, on the plus side, the new rules should benefit lower earners. But what is the detriment to higher earners?
The loss of the income as stated at outset in this article is one but there is another. The impact on attaining qualification for the new ‘flexible drawdown’ – download Green Financial guide here http://www.iangreen.com/downloads/Flexible.pdf or view on facebook here http://www.facebook.com/media/set/?set=a.279726955386751.88831.136170059742442&type=1&l=b96248bd07
This requires a lifetime pension income provision of at least £20,000. So having state benefits of £13,000+ goes much further towards this than £7,280! If you had the £13,606 to buy a comparable annuity to top up to £20,000 would mean you’d need a personal pension of about £93,000 to buy the annuity. At the lower state pension income you’d need more like £200,000 to top up.
To repeat a fact I tweeted last year, to purchase an annuity (so income for life) on the same terms as the state pension a 65 year old male would need a private pension fund of £310,343.19
So in summary, pension and state pension simplification is of course welcomed by all, especially me as I will be far better placed to assist clients in calculating what there state pension entitlement might be. But the journey to a simple state pension regime is far from defined and will be a long journey whatever direction it takes. Under current proposals I’ll be aged 109 when all pensioners are on a flat rate pension income!
For those retiring in the next ten years, there is not so much to worry about as the status quo all but applies, with changes to retirement age (upwards, see link to calculator below to work out yours) being the main factor coming slowly in.
But for those retiring 10 years out, especially those who aspire to or consider they will have taxable income at the higher rate of tax it is well worth making sure your pension – and most importantly forecast pension income – is reviewed to ensure it is on track to meet your aims.
If you are a pension or retirement income client of Green Financial or would be interested in becoming one, please do contact us. We’d love to help if possible.
Further Reading and Resources
28 page Green Financial Retirement Planning Guide – http://www.iangreen.com/downloads/Retirement.pdf
Government Money Advice Service – http://www.moneyadviceservice.org.uk/yourmoney/pensions_and_retirement/default.aspx
State Pension Age Calculator – http://pensions-service.direct.gov.uk/en/state-pension-age-calculator/home.asp
Getting a State Pension Forecast - http://www.direct.gov.uk/en/Pensionsandretirementplanning/StatePension/StatePensionforecast/DG_10014008
Green PEAs – The Green financial Pension Evaluation and Analysis Service for personal pensions - http://www.iangreen.com/pensionperformance.php
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