This 'generous' government incentive could add an extra £23k to your pension
Over the next five years more than half a million workers who retire before they become eligible for the state pension will get the opportunity to top it up at bargain rates, according to new analysis from Royal London.
This is particularly good news for many teachers, nurses, civil servants and local government workers who may not be eligible for the full state pension.
Currently the headline rate for the state pension is £155.65 a week for those with 35 years of full national insurance contributions. However many members of large and public sector schemes will have been in a ‘contracted out’ scheme and paid a lower level of national insurance.
This means that although they are likely to have more in their occupational scheme as a result, they will not be eligible for the headline rate on the state pension.
However many members of these schemes will be able to retire around age 60 – well before they become eligible to start claiming the state pension. At this point Royal London says that they would not normally pay any further national insurance, but they do have the opportunity to buy so-called ‘Class 3’ voluntary contributions for these ‘missing’ years.
This allows them to boost their state pension and plug some of the shortfall that has been created by contracting out.
Class 3 voluntary contributions are a very cost-effective way of topping up a pension. One year’s worth of contributions costs £733 but stands to top up an individual’s state pension to the tune of £230 a year for life.
Steve Webb, director of policy at Royal London says: “This is similar to buying an index linked annuity with an annuity rate of over 30% - more than 10 times the rate available in the market.”
Over a typical 20-year retirement, Royal London says that a lump sum of £733 could earn a pensioner an additional £4,600, while in return for an investment of £4,000 an individual could plug five missing years and get an extra £23,000 over their remaining life.
Mr Webb adds: “Large numbers of workers could gain a substantial boost to their state pension for the payment of a relatively modest lump sum. It is rare for the government to offer something on such generous financial terms and we want to make sure that everyone knows how to take advantage of this opportunity.”
A scheme originally established in 1944 to provide protection against sickness and unemployment as well as helping fund the National Health Service (NHS) and state benefits. NI contributions are compulsory and based on a person’s earnings above a certain threshold. There are several classes of NI, but which one an individual pays depends on whether they are employed, self-employed, unemployed or an employer. Payment of Class 1 contributions by employees gives them entitlement to the basic state pension, the additional state pension, jobseeker’s allowance, employment and support allowance, maternity allowance and bereavement benefits. From April 2016, to qualify for the full state pension, individuals will need 35 years’ of NI contributions.
In exchange for any lump sum – usually your pension fund – an annuity is “bought” from an insurance company and provides an income for life. When you die, the income stops. Annuity rates fluctuate daily and depend on your sex (although from 21 December 2012 insurers will no longer be able to use gender as a factor when calculating annuities), age, health and a number of other factors, so you have to pick the right one and, once bought, its terms cannot be altered, so seek financial advice.