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State pension: changes in the pipeline

New scheme could increase state pensions for some

extra money

Pensioners could be in line for extra money under the new system

In his Budget speech on 23 March, George Osborne confirmed the government’s intention to introduce a flat-rate state pension. He suggested this would be worth £140 per week and end pension credit means-testing. However, the new scheme won’t apply to existing pensioners.

Flat-rate state pension 

UK state pension currently comprises basic state pension (£102.15 for 2011-12), which you receive if you have built up enough national insurance contributions, and an additional means-tested benefit called pension credit, which you qualify for if your income from all sources falls below a certain level (£137.35 for 2011-12). 

There is also a second state pension, S2P (originally called State Earnings Related Pension, or SERPS). This is paid to those who have not ‘contracted out’ and have built up an entitlement to extra pension from the state as a result of their national insurance contributions. What you receive varies according to your earnings and how much you have paid in, but is capped at an upper limit.

The new pension system would pay a single flat rate. In his Budget speech George Osborne said: ‘If people can’t work out what they’re going to get in retirement, or how much will be clawed back by the means-tests – then they can’t work out what they need to save. So the Pensions Minister, the Pensions Secretary and I have worked together to develop options including a new single-tier pension. It would be simple; it would be based on contributions; it would be a flat-rate, so people know what to expect. And it would cost no more than the current system.’

Not all will benefit from a state pension increase

A flat-rate system would leave many people better off. In particular it would mean an automatic pension increase for the million or so who currently qualify for pension credit but fail to claim it.It may also bring a modest rise to those who are just above the pension credit threshold. 

For those who would have qualified for a significant second state pension, it is not such good news. The indications are that they may no longer qualify for the pensions boost they currently enjoy, although S2P entitlement may be withdrawn gradually rather than phased out overnight.

Current pensioners seem unlikely to benefit from the proposed change, although the pension they receive will continue to be increased each year in line with the Coalition government’s ‘triple lock’ guarantee (increasing by inflation, in accordance with wages or by 2.5% – whichever is the greater).

Pension contribution changes

As well as changing the way state pension is paid, the government has also suggested changing the way it is paid for. The proposal to combine income tax and national insurance into a single tax seems less advanced than plans for pensions reform, but it could bring administrative savings for employers and government alike.

A concern raised by pensioners is the fact that they are currently excluded from paying national insurance but could be ‘caught’ by a new unified system. This was specifically ruled out by the Chancellor, who said: ‘We will consult on merging national insurance and income tax. We are not proposing to extend NIC to pensioners.’      

How a unified tax will work remains unclear, with the suggestion that employers’ contributions may be merged while individuals continue to make two separate payments

State pension age   

The other big change to state pension is the age at which it will begin being paid. Already scheduled to rise from 60 to 65 for women by 2020, it will now be equalised by 2018, with an age limit of 65 for both men and women. 

In 2020 the qualifying age will rise again, to 66 for both men and women. In the Budget, George Osborne suggested that further age rises were in the pipeline, declaring that: ‘I can tell the House that we will now seek – hopefully with all-party support – a new, more automatic mechanism for future increases in the State Pension Age based on regular, independent reviews of longevity.’ 

What this means for future rises is uncertain, but it seems that a state pension age of 70 is not impossible for some working today.

For advice on preparing for later life, read the Which? Planning your retirement advice guide. 

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