Single tier pension reform “will leave many worse off”

5 Apr 16

The single tier pension, which comes into effect today, could spark widespread disillusionment as it falls to meet a pledge to simplify the system and many people could receive less than they expected, according to the Institute for Fiscal Studies.

An analysis by the IFS found that as well as being less generous in the long run, many pensioners may find that they are not entitled to the full single tier pension advertised by the government.

“The simplicity of the new system has been at best misunderstood and at worst overstated,” the IFS said. “It is certainly not the case that everyone retiring after today will receive £155.65 per week, nor even all those with at least 35 years of contributions will do so.”

As the IFS highlights, the message from the government so far has been that if an individual contributes for at least 35 years, they receive the full entitlement.

But this does not take into account the transition period before a full switch to the new system – a period when continued complexity is “unavoidable”, the IFS said.

Its analysis suggests that in fact only 17% of those reaching the state pension age over the next four years will receive a state pension worth exactly the full single tier amount. Around a quarter (23%) will enjoy a higher income but the majority, 61%, will receive less.

The think-tank pointed out that there are good reasons for this: most people will receive a single tier pension below the full amount because they ‘contracted out’ their pension in the past – meaning many, including public sector workers, paid reduced National Insurance contributions. Instead, they will have accrued rights in a private pension that should be worth at least as much as the forgone state pension.

The IFS noted that it would have been “very generous” to not reduce these individual’s state pensions under the new system. This is especially true when under the transition arrangements, which allow those who have contracted out in the past to close the contribution gap, meant this group was already more generously treated than otherwise identical individuals that were instead contracted in.

Those enjoying more than the £155.65 per week flat rate are those that had already accrued entitlement to more than this amount under the previous arrangements, when the pension was made up of a basic pension and a contribution based state second pension.

The IFS said in the long run anyone with 35 years of contributions would receive the full flat rate, but that this “will not happen for many years”.

“There is a considerable risk of disillusionment as people start claiming pension incomes this year,” the IFS warned. “It would be a shame if such disillusion was to threaten the sustainability of what is on balance a sensible reform.”

The new system will also be simplified because accrual to the new state pension will be at a flat rate: for each additional year worked, individuals can add an additional year of entitlement at a rate of £4.44 per week until they reach £155.65.

This will make it far easier for a person to understand how much an extra year of work will be rewarded in their pension. However this simplicity comes at a price.

“It is important to be clear that in the longer-term, as well as achieving a genuinely simpler system, the new single-tier pension will be less generous – and therefore less costly to the taxpayer – than the system it replaces,” the IFS said.

Although the new system will be more generous for some, such as the unemployed, the new accrual rate is lower for almost every other group, the IFS found. This is because under the old system most people accrued entitlements to not only the basic state pension but also the second state pension, meaning an extra year of activity would have earned them more.

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