New State Pension Scheme

A new State pension scheme will come into operation in little more than 15 months’ time, in April 2016. 

The existing State scheme is complex, involving a basic State pension and various earnings-related supplements, notably the Second State Pension (‘SP2’). A further complication has been the option of contracting out of SP2 and diverting National Insurance contributions to enhance the benefits under personal pension schemes. 

The current system has penalized people who have spent long periods out of the labour market or have low earnings, and so have been unable to build up sufficient National Insurance contributions to fund SP2. Those particularly affected are women, carers and the low paid.

The new system will improve provision for such people by providing a single tier flat-rate pension based on qualifying years of contributions. This will also be available to the self-employed, who do not pay National Insurance contributions and consequently do not qualify for SP2. 

The right to contract-out will cease and the available benefits will be capped, regardless of contributions or earnings, so higher earners will no longer be able to accrue additional benefits. Those with fewer than 10 years of contributions will also lose out, and those who have already started drawing State pension benefits before April 2016 will not be eligible to participate. 

NI contributions for employees with contracted-out final salary schemes will increase in 2016, which is expected to accelerate the decline of such schemes.

Overall, the effect of the changes on Government spending on pensions will be broadly neutral, with the winners balancing the losers. 

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