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The State Pension is the money you get from the Government to provide you with an income in retirement. This might sound straightforward enough but the system is actually quite complex.
The system can be a bit of a minefield but it’s important to understand it as your State Pension entitlement could have a big impact on your future retirement lifestyle.
In this article, we will briefly cover how the State Pension works, how to calculate the level of State Pension you are likely to receive in retirement and ways in which you could get a better deal from the Government.
What is the State Pension?
State Pension rules changed in April 2016 which made them more difficult to understand. Before this happened, people received a “basic” State Pension when they reached retirement age and in some cases, certain individuals received an “additional” State Pension.
So, if you reached retirement age before April 2016 then in the 2019-20 financial year, the basic State Pension making its way to your account should be £129.20.
If, however, you are set to retire after April 2016, your State Pension will operate under the new rules and you should receive a “single-tier” State Pension when you reach retirement age (sometimes referred to as “new State Pension”).
In 2019-20, the amount you receive under the full, new State Pension is £168.60 (about £8,767.20 per year). We highlight the word “full” because you may not actually receive this amount as it is dependent on your personal circumstances.
If, for example, you have not built up 35 years of qualifying National Insurance contributions (NICs) then you are unlikely to receive the maximum £168.60 available. On the other hand, if you have accumulated an “Additional State Pension” then you may well receive more than this.
It is worth mentioning briefly that it has not been possible to build up any additional state pension (sometimes called the “Second State Pension” or “State Earnings-Related Pension Scheme”) after April 2016. However, you may have prior to this date, as you approach your retirement age after 2016.
You might be wondering what your “retirement age” is (i.e. the point where you can start claiming your State Pension). In 2019-20 it is between 65 and 66 for everybody which is set to increase in future years. So, for instance, in 2028 it will be 67 and by 2039 it will have risen further to 68.
How much will I get?
As mentioned above, how much money you get from the Government in retirement depends on a range of factors, including:
-Whether you reached retirement age before April 2016. Certain groups of people get more, or less, than others under the old system compared to the new one.
-How many years of NICs you have built up (remember, you need at last 35 to get the full, new State Pension).
-Your pension credit status. This an extra, means-tested source of income for retired people who are struggling financially. You must meet certain criteria to be able to claim this benefit, which we will come to below.
-Any Additional State Pension you may have accumulated.
The other important thing to remember is that to get any kind of State Pension, you must have at least 10 years of qualifying NICs.
How to get a better State Pension deal
Clearly, if you are still working and will be for a good few more years, then one important way to get the best pension deal is to make sure you build up at least 10 years of NICs throughout your employment.
Better still, try to meet the 35 qualifying years to ensure you become entitled to the full, new State Pension when you reach your state retirement age. In general, those in full time employment earning over £166 a week should be making NICs automatically via their employer, under the Pay-As-You-Earn system (PAYE).
Looking forward, it may well be that you will fall short of the 35 years’ worth of NICs through your future employment. Should this be the case, it is possible to “top up” some of your previous years where you did not make a qualifying year (e.g. because you lived abroad), by making voluntary NICs. Another option could be to consider deferring your whole State Pension, which can sometimes result in you receiving a higher income from the Government when you do eventually claim it.
You can check for gaps in your NI record on the government’s website.
For expectant parents, you may be wondering what could happen to your NICs if one or both of you intend to take time off work to look after your child.
This situation can become quite complicated but generally speaking, if you are over the age of 16 and your child is less than 12 years of age, you should receive “Class 3 National Insurance credits” if you are receiving Child Benefit. These credits allow you to fill gaps in your NI record, even if you are not working.
Another option couples may wish to consider is making voluntary NICs on behalf of a spouse or partner so they can build up their own full new State Pension record.
Final thoughts
We hope this has helped with the basic aspects of the State Pension which may affect you but there is a lot more to consider when factoring your State Pension into your overall retirement plan so please do get in touch if you wish to explore this further.
It is fair to say that conventional wisdom states you should start saving as early as possible for your retirement. The reality, of course, isn’t always the case.
For many of us, “life” gets in the way of investing in our twenties and thirties. Salaries tend to be low for most people as they embark on their careers, and the cost of rent (assuming you live away from home) can be a big drain on what little money you have coming in.
During this stage in your life, what little you have to save, you understandably might want to put towards a house deposit rather than a pension. By the time you are on the housing ladder, perhaps you are in your thirties and you now have the cost of a family taking over.
As a result, it isn’t uncommon for people to reach their forties and suddenly think: “I should probably start thinking about retirement!” At this point, of course, many of us hear the message that we “should have started saving in our twenties” and wonder if it’s all too late.
Naturally, the ideal scenario would be to start putting money aside as early as possible but it is certainly never too late to start investing and saving for your future life after work.
In this article, we’re going to suggest some ways to “catch up” on your retirement savings if you have missed out on previous years. This content is for information purposes only and is not financial advice, so best to speak to us further for specific guidance on your own situation.
Look at the positives
Whilst you might feel disheartened that you didn’t start saving sooner, consider the strengths of your current position. In your forties, for instance, your salary is likely to be much higher than it was when you first started working in your twenties. This means you have more money to potentially commit towards a pension if you have spare funds available.
Also, it is quite likely that your outgoings are not as high as they could be. Admittedly, you will have a mortgage or rent to pay, and possibly children to look after. However, for many people, the children are older at this point, which allows more freedom for two parents to work and increase their household income.
Moreover, if you are now on the property ladder then you presumably no longer need to save for a deposit, which was previously hindering your ability to build up your pension in your twenties.
Take a look at the longer-term picture. The reality is, most of us are now living longer, which means we all are likely to need larger pension savings compared to previous generations. However, it also means that you could still have more decades in which to build up your pension pot.
For instance, if you recently turned forty years old, then your retirement age (under the current system) is likely to be sixty-eight, which gives you potentially twenty-eight years of work, during which time you can build up your retirement savings. This is a good length of time, assuming, of course, you are fortunate enough to remain in good health and in employment.
Draw up a plan
Let’s continue to assume that you are forty; that you have no retirement savings; that you have two children in full-time education and that you are slowly paying off your mortgage.
How much will you need in retirement, and how much will you need to start saving to get there?
Here, it is usually helpful to draw up a plan and perhaps discuss with a professional financial planner, who will be able to present you with some options. However, it’s also a good idea to start thinking about things yourself, to at least get you started.
Begin by looking at how much you are likely to need in retirement. A general benchmark is to assume that you will need at least £18,000 per year to cover the essentials, and at least £26,000 to live more comfortably in retirement.
So, how can you start to work towards this? Firstly, look at your State Pension. In 2019-20, the most this will give you is £168.60 (about £8,767.20 per year). To be eligible for this, you need at least thirty-five years of qualifying National Insurance Contributions (NICs).
Are both you and your spouse/partner on track to achieve the thirty-five qualifying years? Together, that would generate £17,534 per year in today’s money and achieves a large percentage of your target. (Bear in mind, however, that you cannot “inherit” your spouse’s/partner’s State Pension when they die, so this would dramatically reduce your retirement income from the Government).
For the rest, you will need to make up the difference with your own saving and investment plan. So next, look at your workplace pension.
Some employers offer very good pension schemes, which can enormously boost your retirement savings. Under Auto Enrolment rules, employers must contribute at least 3% of your eligible earnings towards your pension pot. You need to put in at least 5% of this yourself (of which 1% is made up of tax relief) making a total of 8% in pension contributions each year.
You will need to do some careful planning to see whether these current levels of contributions will get you to where you need to be in retirement.
For instance, 8% of a £40,000 annual salary, is £3,200. Broadly speaking, over say twenty-eight years, achieving an estimated 7% annual investment return, this would generate a £267,252.92 pension pot.
This sounds like a lot of money and it’s certainly a good start. However, it is quite likely that you will need significantly more to attain a comfortable retirement income, and also counter the eroding effects of inflation. If you would like help in devising a plan for the future, please do get in touch with us as we can help you cover all the necessary bases.
